Native Capital: Financial Institutions and Economic Development in São Paulo, Brazil, 1850-1920 9780804788199

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n at i v e c a p i ta l

Social Science History Edited by Stephen Haber and David W. Brady Fernando Rocchi, Chimneys in the Desert: Industrialization in an Agrarian Economy, Argentina During the Export Boom Years (1870 –1930) J. G. Manning and Ian Morris, The Ancient Economy: Evidence and Models Daniel Lederman, The Political Economy of Protection William Summerhill, Order Against Progress Samuel Kernel, James Madison: The Theory and Practice of Republican Government Francisco Vidal Luna and Herbert S. Klein, Slavery and the Economy of Sa˜o Paulo, 1750 –1850 Noel Maurer, The Power and the Money David W. Brady and Mathew D. McCubbins, Party, Process, and Political Change in Congress Jeffrey Bortz and Stephen Haber, The Mexican Economy, 1870 –1930 Edward Beatty, Institutions and Investment Jeremy Baskes, Indians, Merchants, and Markets

N AT I V E C A P I TA L Financial Institutions and Economic Development in Sa˜o Paulo, Brazil, 1850 –1920

anne g. h anley

s ta n f o r d u n i v e r s i t y p r e s s Stanford, California 2005

Stanford University Press Stanford, California © 2005 by the Board of Trustees of the Leland Stanford Junior University. All rights reserved. No part of this book may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying and recording, or in any information storage or retrieval system without the prior written permission of Stanford University Press. Published with the assistance of Northern Illinois University Printed in the United States of America on acid-free, archival-quality paper Library of Congress Cataloging-in-Publication Data Hanley, Anne G. Native capital : financial institutions and economic development in Sao Paulo, Brazil, 1850 –1920 / Anne G. Hanley. p. cm. — (Social science history) Includes bibliographical references and index. ISBN 0-8047-5072-6 (cloth : alk. paper) 1. Capital market—Brazil—São Paulo—History. 2. Financial institutions—Brazil—São Paulo—History. I. Title. II. Series. HG5340.S35H36 2005 332.0415098161— dc22 2005009123 Typeset by G&S in 10.5/13 Bembo AR Original Printing 2005 Last figure below indicates year of this printing: 14 13 12 11 10 09 08 07 06 05

For my parents, Marilyn Boulanger and Andrew Hanley

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contents

List of Tables and Figures Notes on Conventions Acknowledgments

ix xiii xv

1.

Capital Markets and Economic Development

1

2.

Native Capital under the Empire

24

3.

Brokers and Business Finance under the Empire

56

4.

The Republican Revolution and the Rise of the Bolsa

84

5.

The Republican Revolution and the Failure of Universal Banking

114

6.

Commercial Banking and the Business of Development

153

7.

Conclusions

187

Appendix: Profits Notes Bibliography Index

195 211 263 279

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ta b l e s a n d f i g u r e s

ta b l e s 2.1

Sa˜o Paulo Public Banking Sector to 1889 by Ownership, Type, Location

48

2.2

Market Share in the Sa˜o Paulo Banking Sector, 1873 –1889

49

2.3

Sources of Bank Funds, 1873 –1889

50

2.4

Earning Assets of Sa˜o Paulo Domestic Commercial Banks, 1877–1889

51

Equity Investment in Sa˜o Paulo Joint-Stock Companies, 31 December 1886

76

Percent of Inventoried Wealth Held in Company Stocks, 1861–1895

78

Debentures Issued by Sa˜o Paulo Companies as of 31 December 1887

81

Domestic and Foreign Investment in Sa˜o Paulo Joint-Stock Companies, 1886 –1887

82

4.1

Industrial Firms Listed on the Sa˜o Paulo Bolsa, 1905

94

4.2

Companies Quoted on the Sa˜o Paulo Bolsa by Sector, 1886 –1905

97

Sectoral Composition of the Sa˜o Paulo Bolsa by Firms, 1905 –1917

100

Sectoral Composition of the Sa˜o Paulo Bolsa by Capital, 1905 –1917

102

4.5

Equity Finance in the Cotton Textile Industry, 1905 –1915

103

4.6

Stock Trading Ratios on the Sa˜o Paulo Bolsa, 1907–1917

107

4.7

Bonds of Corporate Debt by Sector, 1886 –1917

108

3.1 3.2 3.3 3.4

4.3 4.4

ix

x

ta b l e s a n d f i g u r e s

4.8

Domestic Debt/Equity Ratios by Sector, 1909 –1914

108

4.9

Distribution of British Investment in Brazil, 1875 –1913

110

5.1

Universal and Commercial Bank Assets by Portfolio, 31 December 1890

127

5.2

Composition of Universal Bank Portfolios, 1890 –1904

129

5.3

Application of Earning Assets in Commercial Portfolios, 1890 –1904

132

Banco Unia˜o de Sa˜o Paulo Construction and Industrial Portfolio, 1891–1906

134

5.5

Volume of Mortgage Loans Outstanding, 1890 –1905

139

5.6

Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo Earning Assets, 1910 –1920

142

6.1

Asset Size of Paulista Banks, 1890 –1892

155

6.2

Domestic vs. Foreign Share of the Sa˜o Paulo Banking Sector, 1882 –1906

156

6.3

Sources of Bank Funds, 1889 –1906

157

6.4

Regional Banks in the State of Sa˜o Paulo, 1890 –1892

165

6.5

Investment of Commercial Banking Earning Assets, 1892 –1906

166

Rural vs. Urban Mortgage Lending by Regional Banks, 1892 –1900

168

6.7

Type of Liquidity Ratio by Bank Group

170

6.8

Bank Liquidity Ratios, 1890 –1906

171

6.9

Basic Liquidity by Bank, 1893 –1897

173

5.4

6.6

6.10 Foreign Bank Liquidity During the Bank Panic, 1898 –1904

175

6.11 Foreign Bank Deposits, Loans, and Cash Reserves, 1899 –1904

176

6.12 Commercial Bank Ratios of Cash to Deposits, 1893 –1903

178

6.13 Domestic vs. Foreign Share of the Sa˜o Paulo Banking Sector, 1906 –1920

179

6.14 Webbing Between Bank and Non-Bank Companies, 1856 –1920

183

Tables and Figures

xi

6.15 Comparing Degrees of Webbing, 1856 –1905 and 1906 –1920

184

6.16 Directors and Shareholders Linked to Two Companies, 1856 –1920

185

A.1 Semester Bank Profits, 1884 –1889

207

A.2 Average Bank Semester Profitability, 1890 –1905

207

A.3 Average Bank Semester Profitability, 1906 –1920

208

A.4 Dividend Returns to Bank Stocks and Government Bonds, 1886 –1891

208

A.5 Dividend Returns to Bank Stocks and Government Bonds, 1895 –1905

209

A.6 Dividend Returns to Bank Stocks and Government Bonds, 1906 –1920

209

A.7 Total Returns to Bank Shareholders and Bondholders, 1887–1920

210

figures A.1 Sample Profit-and-Loss Statement

205

A.2 Sample Balance Sheet

206

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notes on conventions

c u r r e nc y

The Brazilian currency during the time of this study was the mil-réis, and was written as 1$000. It ranged in value between US$.20 and US$.50. All U.S. dollar figures in the text reflect the exchange rate for the given year. One thousand mil-réis was called one conto, and was written as 1:000$000. Most references to Brazil’s currency at the time, and in this book, were to either the mil-réis or the conto. spelling

The rules regarding written Portuguese have undergone several changes between the era of this study and the present day. Standards for spelling at the time were flexible, as well, resulting in variations on common names (Queiros versus Queiroz, for example). Where multiple spellings of a name appear, I have tried to select the most common form and use it consistently throughout the text. Corporate names are used as they appeared, not as they would be spelled today. a b b r ev i at i o n s

Two common abbreviations appear in the financial press of the nineteenth century. These are “Bco.” for the word banco, or bank; and “Cia.” for the word companhia, or company. These abbreviations appear occasionally in the text and more frequently in the tables. t r a n s l at i o n s

All translations are by the author, unless otherwise noted.

xiii

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a c k n ow l e d g me n t s

Many institutions provided me with support during the years of research and writing that turned an idea into a dissertation and then into this book. The Department of History at Stanford University funded my doctoral program with a generous fellowship. The Center for Latin American Studies at Stanford University financed my initial research into dissertation topics, and the Fulbright Foundation generously supported my field research in Sa˜o Paulo. The writing phase of the dissertation was funded by the Department of History at Stanford University, through the James Birdsall Weter Award, and by a generous Dissertation Completion Grant from the National Endowment for the Humanities. The Economic History Association’s Arthur H. Cole Research Grant-In-Aid and a Summer Research and Artistry Grant from the College of Liberal Arts and Sciences at Northern Illinois University financed research to expand and revise the dissertation into a book. The Department of History at Northwestern University gave me the institutional home from which I was able to conduct much of the new research. The generosity of these institutions made this research possible. I benefited immeasurably from the professional training of a number of individuals. Wendy Beale Needham and William Neville Smith introduced me to applied market and economic research, which gave me the tools to undertake this project. Their mentoring made my foray into the world of investment banking an intellectually challenging and rewarding experience. Flávio A. M. de Saes spent much of his valuable time discussing the problems of financial-sector development and generously made his own research available to me. My deepest thanks go to my doctoral adviser and mentor, Stephen Haber. His exceptional teaching introduced me to the study of institutional economic history, and his guidance helped me combine this approach with my long-standing interest in Sa˜o Paulo. In the classroom and through his work, he taught me how exciting and powerful academic research can be. I am indebted to a long list of individuals in Brazil and the United States

xv

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Acknowledgments

for their assistance in seeing this project to completion. The Instituto de Pesquisas Econômicas at the University of Sa˜o Paulo sponsored me during my field research. I wish to thank Dr. José Paulo Z. Chahad, the Director of Graduate Studies at the Institute, and Dr. Marcos Eugênio da Silva, who served as my liaison. Maristella Ansanelli and Luís Fernando Vasconcellos provided important research assistance. The staffs of the library and manuscripts divisions of the Arquivo do Estado de Sa˜o Paulo, the Associaça˜o Comercial de Sa˜o Paulo, BOVESPA, and the Patrimônio Histórico da Eletropaulo guided me through their collections and provided me with work space to conduct my research. This project would have been impossible without their cooperation. Sonia Moss of the interlibrary borrowing division at Stanford University’s Green Library procured important Brazilian legal documents for me, and Noel Maurer generously provided me with data on the Mexico City stock exchange. The interlibrary loan departments at Northwestern University and Northern Illinois University and the outstanding collection of the Center for Research Libraries made Brazilian historical inquiry possible in Chicago. Much of the research in this book was presented at seminars and conferences, where I received many valuable comments and critiques. I am especially appreciative of Lee Alston, Sérgio de Oliveira Birchal, Louis Cain, John Coatsworth, Gustavo Franco, Jeffrey Frieden, Michael Gonzales, Stephen Haber, Kenneth Lipartito, Joseph Love, Joel Mokyr, Larry Neal, JeanLaurent Rosenthal, Flávio Saes, Tamás Szmrecsányi, Alan M. Taylor, Steven Topik, Gail Triner, and William Summerhill for their input. I also thank the participants of economic history seminars at Northwestern University, University of Illinois, Universidade de Sa˜o Paulo, Universidade Estadual Paulista–Araraquara, and of conference sessions at the All-University of California Group on Economic History, the American Historical Association, the Economic History Association, the Brazilian Studies Association, the IV Congresso Brasileiro de História Econômica, and the International Economic History Association for their comments. The Bellagio seminar, organized by John Coatsworth and Alan Taylor, provided a week of unsurpassed intellectual engagement that resulted in Chapter 4 of this book. Joseph Love and Philip Hoffman read this manuscript from start to finish and gave me detailed comments and suggestions to strengthen and improve it. I am deeply grateful for their help and hope I have done justice to their ideas. Norris Pope, Anna Eberhard Friedlander, and Ruth Steinberg at Stanford University Press provided outstanding editorial guidance. All errors, of course, are mine.

Acknowledgments

xvii

I have been fortunate to have had outstanding environments in which to study, write, and teach. Along the way, I have accumulated a debt of gratitude to my professors, colleagues, and friends. José Carlos Sebe Bom Meihy of the University of Sa˜o Paulo guided my early intellectual exposure to Brazil. At New York University, Warren Dean and Nicolás Sánchez Albornoz taught me Latin America’s rich history. Stanford’s history department offered an exciting intellectual and social environment in which to study, thanks in no small part to David Coe, Jeffrey Fear, Naomi Koltun-Fromm, Seth Meisel, Noel Maurer, William Summerhill, Mauricio Tenorio, Stephen Wager, Wendy Wall, and Daryle Williams. My professors, the late Fred Bowser, Stephen Haber, and the late John Wirth, provided outstanding training in the history of Latin America and in archival research and writing. At Northwestern, Joel Mokyr and Alan Taylor extended their welcoming friendship. I am fortunate to have wonderful colleagues in the history department at Northern Illinois University. I am especially grateful for the friendship and guidance of Michael Gonzales. In Brazil, it was with Tereza Gonçalves, Marcelo Bernardini, Marcos Eugênio da Silva, Ana Paula Santos Almeida, Margarida Oliva, Flávio and Sylvia Saes, Guaraciaba Stela Nascimento, and the late Guaracy Maria Nascimento that I fell in love with Sa˜o Paulo. I am forever grateful to the Lima Gonçalves, Nascimento, and Pulcheira families for taking me into their hearts and homes for more than twenty-five years. My family deserves my appreciation beyond anything I can express here. I will never be able to repay my husband Joe for his patience during the years of research and writing. He has offered me nothing but love and encouragement throughout this process. Saying thank you seems entirely inadequate. My children, Philip and Ellen, bring such grace, beauty, and humor into my life that I cannot believe my good fortune. They provide an important balancing influence in my life. I am thrilled that they like Brazil. I became a historian, in large part, because Fabian Giroux and Dennis O’Hern made history come alive for me in high school. I became a Brazilian historian because of the late Warren Dean, who wrote a book that made me want to write one like it. His mentoring and friendship were invaluable; his passion for Brazilian history will always serve as a model for me to live up to. My deepest gratitude in this long evolution from interest to career goes to my parents. They gave me my love of books and ideas. They let me go to Brazil as a teenager and again in college. They put me on a plane to study at NYU and welcomed me home to study at their alma mater, Stanford. My father read the near-final manuscript when I could no longer see

xviii

Acknowledgments

it clearly. They have offered unconditional love, support, and encouragement. It is to them that I dedicate this book. A version of Chapter 4 was published as “Business Finance and the Sa˜o Paulo Bolsa, 1886 –1917,” in Latin America and the World Economy: Essays in Quantitative Economic History, edited by John H. Coatsworth and Alan M. Taylor (Cambridge, Mass.: DRCLAS/Harvard University Press, 1998).

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Chapter 1

Capital Markets and Economic Development

Sa˜o Paulo, Brazil, is the wealthiest and most economically developed region in Brazil and is the industrial leader of Latin America. The development of the state of Sa˜o Paulo is widespread, but its spirit is most closely associated with the capital city, which shares its name and which was the original site of the state’s famous industrialization. The city of Sa˜o Paulo is a visual metaphor for capitalist development; it is a rambling metropolis, packed with skyscrapers and high-rise apartment buildings. A sprawling city like Los Angeles, Sa˜o Paulo is far denser for being built up as well as out. Portions of Sa˜o Paulo still resemble Los Angeles’s 1920s bungalows and 1950s suburbs of single-family homes, but these are quickly being reconfigured into the high-rises more typical of New York City to accommodate both the housing needs and safety needs of the city’s constantly expanding population. Its neighborhoods are far flung, distinct from one another, and linked by lengthy bus routes and snaking metro lines. It can take three hours to cross the city by way of its streets, which become notoriously clogged in frequent rainstorms. The success of this industrial base has extended to the state of Sa˜o Paulo, which houses most of the largest cities in Brazil. What were secondary or satellite cities for much of the twentieth century, Campinas, Ribeira˜o Preto, Sa˜o José dos Campos, among others, are growing industrial cities in their own right. The prestigious University of Sa˜o Paulo has begun establishing

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campuses in hinterland cities, much like the University of California system spread throughout that state, a sure testament that the growing vibrancy of economic life has spread beyond the state’s capital city. These universities and think tanks compile data and generate the indexes that take the pulse of the nation’s well-being. Sa˜o Paulo’s commercial and industrial associations are among the most vocal and influential economic lobbyists in Brasília, the nation’s capital. The state of Sa˜o Paulo is the heart of the nation’s economic power and consciousness. This first-world image stands in sharp contrast to the unflattering stereotypes often associated with the rest of Brazil. Brazilians are portrayed, even by other Brazilians, as a sun-worshiping, work-averse population ruled by patronage and reciprocal obligation rather than the economic relations of the market. Sa˜o Paulo is the recipient of masses of the destitute and underprivileged that pour out of the Northeast every year in search of a fair shake and a real job. This characterization of a wealthy, indifferent, spoiled Northeastern elite, popularly criticized for turning a blind eye to the misery around it, sits uncomfortably with the Paulista population.1 Residents of Sa˜o Paulo state feel their hard work should set them apart from the problems of poverty and underdevelopment that plague the Northeast and the interior. It is not uncommon to hear the opinion expressed that if only Sa˜o Paulo could distance its fortunes from the backward “country” to the north, it would be free to realize its full potential. An independent Sa˜o Paulo would claim its rightful place in the first world. Sa˜o Paulo’s modern fortune, famed entrepreneurial drive, and phenomenal industrialization experience all grew out of the coffee boom of the late nineteenth century. Coffee had arrived in Brazil in the eighteenth century, but was produced on a large scale for export only in the nineteenth. Once international demand proved to be strong, coffee plantations quickly expanded to satisfy it. Coffee was so well suited to the local conditions that by 1831 it had surpassed sugar as Brazil’s principal export.2 Initially established in Rio de Janeiro, coffee plantations spread ever south and west in search of new fertile soils as world demand grew. In what is now considered a fateful moment in Brazilian economic history, coffee jumped the border from Rio into the Province of Sa˜o Paulo, as the state was known under the Empire, where it achieved its fullest expression. Rich red soil, perfect rainfall, and cheap and abundant land attracted planters who had tried their hand at other crops with varying success. In coffee they found their fortune. Expanding demand in the European market, demand fueled by rapid urbanization and rising incomes, meant that Brazil could sell all it planted. With no real com-

Capital Markets and Economic Development

3

petition from anywhere else in the world, Sa˜o Paulo dominated Brazilian and international coffee production by the turn of the twentieth century. As late as 1880, however, this region showed no signs that it would become the economic center of the country. Sa˜o Paulo had been a virtual backwater in the nineteenth century, sparsely populated and better known for its middling quality cotton and sugar and its highway robbers than for its currently renowned entrepreneurial spirit. Although modern-day Paulistas speak proudly of a distinguished heritage going back four hundred years, most of their ancestors arrived in the eighteenth century and were hardly noble. The majority were subsistence farmers existing on the margins of a mule train path carved between Rio Grande do Sul in the south and Minas Gerais to the northwest.3 As late as the arrival of the Portuguese Court to Brazil in 1808, the province of Sa˜o Paulo was relatively poor. The inauguration of the Santos-Jundiaí Railroad in 1867 opened up the Paulista West to large-scale coffee production for the first time by connecting hinterland to port. This new line, and the domestic railroad development it spurred, acted as a great stimulus to commercial agricultural production by extending the viable frontier for coffee production well into Sa˜o Paulo’s vast and fertile interior.4 The number of coffee trees that were planted grew fivefold in the last two decades of the nineteenth century. By the turn of the twentieth century, the state of Sa˜o Paulo alone was contributing over half of the world supply of coffee.5 Sa˜o Paulo’s coffee production had become so huge that this single crop from this single region generated some 40 percent of the total value of Brazilian exports by the early twentieth century. These export earnings contributed to a breakaway sprint in income per capita gains in the southeast region of the country, creating many a coffee baron out of the marginal Paulista planters, while the sugar-producing Northeast lay behind in the dust.6 The meteoric rise in Sa˜o Paulo’s wealth was remarkable on its own but has become almost legendary by the additional fact that this fortune was just as quickly reinvested in a variety of other sectors that turned out to provide the basis for Sa˜o Paulo’s enduring economic development. Unlike any crop that came before it, coffee increased the volume and pace of export business, created demand for agricultural machinery and implements that stimulated domestic machinery and metalworking, drove domestic textile production by needing millions upon millions of jute sacks for the beans, and stimulated infrastructure investment throughout the state. By 1920, Sa˜o Paulo had surpassed Rio de Janeiro as the industrial leader of Brazil and by 1940 had established the largest industrial base in Latin America.7 In a demonstration of

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good fortune experienced by almost no other export economy, Sa˜o Paulo transfigured its economy from a primarily agricultural one to a predominantly industrial one, with lasting effects for its population. Coffee, then, generated both wealth and development. A central question in Brazil’s economic history is how Sa˜o Paulo came to industrialize so quickly and dominate so thoroughly the Brazilian economy. After all, coffee was not Brazil’s first important export crop nor its last. Sugar before and rubber after both failed to transform their respective regions with the breadth and depth of the coffee economy. The unusual experience of the coffee economy led to a series of scholarly inquiries into the relationship between agriculture and industrial development. The most important and well known of the industrialization studies identified what came to be know as the “coffee complex,” a series of links between coffee and the broader regional economy that both stimulated and reinforced the development process. One of the first books to study the link between coffee and development was Warren Dean’s 1969 work, The Industrialization of Sa˜o Paulo, 1880 – 1945. In it Dean argued that the powerful alliance of modern-minded coffee planters and entrepreneurial immigrants came together to generate the industrial base on which the region would build its fortune. Immigrants, principally from Italy, brought with them their knowledge of machinery works and applied this industrial knowledge to the problem of coffee cultivation. Over time, they married into planter families and reinforced a willingness to diversify proceeds from the coffee business into other channels. It is notable that the majority of these channels related directly to the coffee business, such as metalworking and machinery companies that produced agricultural implements, chemicals firms that produced synthetic insecticides, drying and roasting plants that prepared coffee for the market, and textile firms that wove rough sacks to ship the coffee beans. The demand for inputs for the coffee business created a segue into industry and eventually created a base for future diversification. By the 1920s, industrialists were a class apart from the planters and lobbied for economic representation and protection that no longer coincided with the interests of their planter relations. This, Dean argued, was a critical step in consolidating a separate industrial base. Dean’s work shook up the traditional Brazilian historiography on economic development because Brazil’s leading economic historians had asserted that export agriculture and industry were separate beasts, incompatible and in constant struggle with one another. The accepted wisdom had held that industry only emerged when the export economy was disrupted and the country was left with little else but to turn inward and develop its

Capital Markets and Economic Development

5

other sectors.8 After Dean identified the symbiosis between the agricultural and industrial interest groups, rather than the presumed antagonism, other scholars took up the question of coffee-driven development. Some searched for the origins of the imbalance in regional fortunes Brazil has experienced in the nineteenth century, both to understand Sa˜o Paulo’s development success and to explain other regions’ failures.9 Others examined the question of whether a late developer, even a successful one like Sa˜o Paulo, could really have a complete development experience given that it was competing against North Atlantic economies in an industrialized world with only coffee beans as its leverage.10 Regardless of the underlying questions they asked, these works all examined the characteristics that contributed to Sa˜o Paulo’s transition from agriculture to industry. Dozens of researchers attributed this development to one or many factors that included the introduction of a wage-labor (therefore consumer) class, the construction of a regional transportation network, the development of commercial facilities such as warehouses, and the mastery of simple industrial processes such as toolmaking and cloth weaving to supply the coffee trade.11 A vigorous and entrepreneurial planter class, first identified in Dean and seconded by virtually every subsequent work, took the lead in the regional economy and nurtured these new economic sectors. These planters invested their progeny and their money in a broad range of activities, from import firms and warehouses to tool and textile manufacturing facilities, to both profit from the expanded chain of transactions and to protect their assets from overexposure to the vagaries of weather and soil conditions. Sa˜o Paulo emerged from this scholarly flurry as the stellar example of economic diversification and development. The curious thing about this body of research is that while it generally agreed that a strong link between coffee and industry was responsible for Sa˜o Paulo’s development, it placed little emphasis on the institutional mechanisms that allowed a link to form in the first place. How, for example, did planters “transform” their coffee wealth into industrial wealth? How was capital mobilized to build the transportation networks and other infrastructure that lined planters’ pockets while benefiting the larger regional economy? How did entrepreneurs, responding to the growth in economic activity, marshal the resources to turn an idea for a coffee-related product into a working factory? In the context of the industrialization studies, this transformation was the result of a progression presumed to be so natural that it required no explanation and exhibited no specific institutional features. In fact, I argue that this transformation occurred as the result of a very real set of institutions that

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evolved during the coffee boom and early industrialization—the capital markets. This book examines the emergence, development, and diversification of capital market institutions from their earliest, highly personalistic forms through the coffee boom and bust, to maturity in the early twentieth century. I argue that the diversification of the capital markets in Sa˜o Paulo, conditioned by government regulatory legislation, provided crucial mechanisms through which the abundant wealth generated by the coffee boom wound its way into the urban commercial and industrial companies that transformed Sa˜o Paulo. Capital markets are institutions or arrangements that bring together buyers and sellers seeking a similar product, money. Like any other type of marketplace, capital market institutions provide a place where people looking for capital can find it, and where people who have surplus capital can make it available for others to use. We routinely use these institutions every day. From banks and stock exchanges to check-cashing stores and wealthy relatives, capital markets gather loose change from a broad range of places. In their scattered form these funds would probably be insufficient to finance a large loan, but when they are consolidated by capital market institutions they can finance big-ticket acquisitions, from cars and vacations to machinery and factories. Capital market institutions historically have been critical to the process of economic development. In their absence, or before their emergence, the ability of a society to mobilize its resources for productive gain was limited to the size of its immediate good fortune. If a society was lucky and produced a surplus, its savers could pool their resources and lend them out for productive use. But this sort of primitive capital market was fraught with difficulties. Because the savings of any individual would likely be insufficient to fund a larger investment project, many individual savers would have to agree upon the best use of their funds. If a particular individual was well-off and predisposed to lending out a portion of his or her money, the decisionmaking process would be dramatically simplified, but access to these funds would likely be made available only to known neighbors, relatives, and business contacts. In the days before the emergence of formal financial intermediaries, then, access to a community’s resources depended on the goodwill and business intentions of the savers. Lending was based on personal connections and was limited by the willingness of the lender to assume risks. Information and trust were paramount. The advent of modern financial institutions, the most common of which are banks and securities exchanges, broke the constraints of traditional society. No longer were individuals, whether agriculturalists or entrepreneurs,

Capital Markets and Economic Development

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limited to their personal web of connections to raise funds. They could go to a bank and tap the resources of savers they never met, or go to the stock market with an idea and a little seed money and raise capital from investors in another community entirely. By drawing in resources from a broad pool of savers and by making these resources available to investors, these formal capital market institutions freed the process of development from the constraint of a community’s immediate resources and facilitated the essential mechanism that fosters economic growth and development: the investment in new or better or more productive activities and techniques.12 Formal or impersonal intermediaries are more efficient and more effective than personal intermediaries at promoting economic development, though personal and impersonal intermediaries can and do coexist. The transition from one type of intermediary to the other, from personal to institutional, has to do with what economic sociologists identify as the production of trust, a cousin to what economists call information costs.13 This approach argues that institutions form and change in response to alterations in social variables, such as the level of familiarity between parties involved in economic exchanges. When communities are small and economic transactions are stable in number and in agents, interactions will likely be based on some personal connection. Parties involved in an economic exchange will have some knowledge of a business or an entrepreneur based on past experience with them or based on some shared personal characteristic, such as a family tie or a shared cultural background. Under conditions of rapid change, however, the personal relationships on which social and economic interactions rely can break down. In this case, something must take the place of the personal relationships. Economic sociology posits that the stress of a rapidly growing economy will replace personal forms of intermediation typical of traditional economies with increasingly formal, institutional relationships. In this scenario, institutional forms of trust, like the existence of a regulatory board, can facilitate economic exchange. Institutional forms of trust prevail because some objective measure will substitute for personal knowledge to signal the trustworthiness of the parties to an exchange.14

The Evolution of Financial Institutions in Europe and Latin America Capital market institutions, like other types of social and economic arrangements, combined personal and formal mechanisms of trust based on the size and financial requirements of the communities they served. Before the eighteenth and nineteenth centuries, when the banks and exchanges that

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dominate the modern capital markets became more common, a variety of private capital market institutions operated to satisfy the demand for money. These private markets all shared the feature of being based on some personal relationship with the parties involved, in which personal reputation facilitated borrowing. In early modern France, for example, notaries created an important capital market by bringing together savers and borrowers drawn from their clientele.15 The notaries’ intimate knowledge of their clients’ economic lives, and their trustworthiness, put them in the ideal position of having access to a broad pool of funds and a wide network of potential borrowers. Notaries placed the surplus funds of some of their clients in long-term loans to others of their clientele, and appear to have provided the only significant source of funds for domestic credit. Moreover, the notarial connection was personal, but the saver/borrower connection was not. Like modern institutions, the notary eliminated the constraint of savers and borrowers knowing each other long before formal banks or exchanges were common.16 The Catholic Church acted as another type of informal financial intermediary. Because it was one of the wealthier institutions in the early modern world, thanks to its resources flowing from landed estates, dowries of religious personnel, donations, and tithes, it was a natural source of lendable funds to domestic enterprise and consumers. That the Church was an important creditor in the early modern world is widely recognized as ironic since the Church had laws against usury, which prohibited lending money at interest. But the Church, as well as good Christian businessmen, found ways around usury laws that smoothed the functioning of capital markets through the ages. Italian bankers, for example, dealt not in loans but in contracts or letters of exchange. The business transactions we would call “credit” became recast as a simple agreement between two parties. Moreover, the Church defined usury as any interest rate above the prevailing market rates. These semantic twists allowed them to make money on earth and preserve their place in heaven at the same time. As the market economy expanded in the twelfth century, the Church shifted away from a literal interpretation of usury to accommodate the new flows of credit without condemning entire sectors of society to damnation.17 Merchants were the greatest beneficiaries of the Church semantics because they were by far the most important financial intermediaries in the early modern period. For centuries, they had worked out ways of accommodating their clients with credit instruments in order to take advantage of the new luxury goods coming out of the Orient and the specialized manufactures that were flourishing throughout Europe.18 Merchants had long

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contributed to economic activity by facilitating the circulation of goods and services by carting regional products to established fairs and trading cities. In these locations they hammered out rough credit mechanisms that worked around the problems of multiple currencies and the settlement of imbalanced accounts. By the fifteenth century, interregional trade was becoming “incorporated,” as merchants associated themselves with a particular firm or series of correspondents to acquire better information about the market as well as to spread risk. With the vast new overseas trade routes opened as a result of the fifteenth- and sixteenth-century voyages of discovery, merchant credit practices were standardized in what has been termed by a leading scholar as “the first financial revolution.” 19 The standardization of credit vastly improved the possibilities for trade and exchange on the international front.20 Merchant credit was different from notarial or Church credit because it was primarily directed toward long-distance trade rather than the commercial or consumer uses that are associated with domestic economic development. Still, the standardization of financial practices that helped expand trade after the sixteenth century had a direct impact on the growth and development of the domestic economy. First, the standardized letters of credit that emerged from this revolution were transferable and over time took on the role of money, creating liquidity in the economy. Second, and arguably more important, the expansion of trade affected the domestic economy by transmitting international demand to local productive markets. The ease of international trade and finance made it ever more possible to produce goods in one region or country and sell them to another place altogether. This process was a boon to the putting-out system in Europe, in which merchant-entrepreneurs organized networks of cottage producers into a sort of production line to assemble products for sale outside the immediate village. Problematic though it was, the putting-out system was an important precursor to the Industrial Revolution.21 In Latin America, as in Europe, Church credit and merchant credit provided important financial resources for the domestic economy. The Catholic Church was the single largest lending institution in the colonial era. One particularly lucrative type of loan for the Mexican Church was a mechanism known as the censo, an ecclesiastical mortgage that put up a landed estate as collateral against a long-term line of credit. Because the censo was granted in perpetuity, landowners had both their landed asset and liquidity, as long as they made the interest payments on time, about 5 percent of the value of the loan.22 Brazilian religious orders lent money in much the same way, earning significant portions of their income from the extension of credit.23

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So wealthy and powerful was the colonial Church that elite families consciously sought ties to it. Merchants, miners, and landowners steered their sons and daughters into careers as priests and nuns for both heavenly and earthly rewards. Merchant credit originating in the international market also provided important financial resources for colonial Latin America’s domestic economy.24 This link evolved as merchants developed ties to the domestic economy through both marriage and business contacts. The Brazilian-born sons of Portuguese merchants in colonial Bahia generally became landowners, professionals, or priests, for example, while their daughters married newly arriving merchants. In fact, immigrant merchants married Brazilian-born wives 90 percent of the time. This was a way for merchants to bring new Portuguese protégés into their business, and secondarily served to cement ties between Brazilian society and merchant capital.25 Similar patterns are found throughout the colonial Mexican merchant community as well. Merchants commonly forged ties with landowners, miners, retailers, and manufacturers, as well as newly arriving Spaniards, as avenues of social mobility and business development.26 Because the wealth of colonial society tended to be tied up in physical assets, such as land, mines, and slaves, these ties between the Church, merchants, and landowners were critical. The wealthy and prosperous tended to find themselves short on cash. In fact, colonial society as a whole lacked circulating currency. In such a non-monetized economy, credit played an important role if economic activity was to occur. Merchants extended credit to one another and to their business partners as a mechanism to keep the trade that was their livelihood circulating. But the credit we find in colonial Latin America went beyond convenient accommodation. Merchants provided credit to the non-merchant business world as well. The scarcity of money in colonial Latin America ensured that most transactions took place on the basis of credit, meaning no money actually changed hands. Lending money at interest, whether to business partners or relatives, was a natural next step. Colonial documents suggest that as much as one-third of the credit extended by Mexican merchants was for purposes not directly related to their trade.27 Marriage and business ties between Spanish and Mexican, Portuguese and Brazilian allowed credit to find its way into a variety of economic endeavors. In the case of Bahia, for example, merchant credit, petitioned and lent through marriage and business ties, financed the operations of the great sugar mills as well as new activities such as tobacco farming, truck farming, and cattle ranching. Veracruz merchants promoted manufacturing by selling

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cotton, which they bought from Mexican farmers, to textile-plant owners and by buying the resulting cloth for export.28 This three-way transaction was possible thanks to the private credit market. The textile obrajes that benefited from it produced enough cotton goods to rival the volume of European textiles imports in the nineteenth century.29 Other domestic entrepreneurs, from bakers to silversmiths, depended on the extension of credit from merchants and religious institutions to operate their businesses.30 Modern, formal financial institutions that had been wholly absent from Latin America, and even much of Europe, gradually emerged over the course of the nineteenth century and eventually replaced these personal capital markets throughout the settled world. The rapid changes in local and distant exchanges caused by the Industrial Revolution and its ripple effects all but necessitated the evolution of institutions. Over the course of the century, the European population doubled, moved to cities, earned more, consumed more, and demanded more from world trade. The response in Latin America, to varying degrees and at different times, was to substitute institutional forms for personal forms of intermediation. By the end of the nineteenth century, banks and stock and bond exchanges became important sources of credit, both for business formation and for daily operations. The advantages of formal intermediaries over personal capitalists were huge. First and foremost among the benefits was the fact that they created a market much larger than the kin group, neighborhood, or village that had been the effective pool of savings for domestic personal intermediaries, and they created a market larger than the personal notarial or merchant contacts. Formal institutions could attract capital from a much larger geographic region, even internationally, meaning that they could gather together the insignificant savings of a greater pool of individuals and therefore provide a much greater supply of lendable funds for investment and consumption. Local economic fortunes no longer posed as significant a constraint on the possibilities for investment and growth. Not only did formal institutions create a larger pool of capital, they could lend it out at longer terms than personal financial intermediaries. Surveys of early modern capital markets confirm that the most widely available form of credit was commercial credit, lent at the short term.31 While this was an important development in the preindustrial economy, it presented a serious limitation in an industrializing economy. The cost of machinery, equipment, and expertise, and the length of time required to get an operation up, running, and profitable, meant that commercial credit was not a viable source of industrial start-up capital. The chances of founding a textile mill and making money within the twelve–month time horizon of a commer-

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cial loan would be slim. Longer-term loans were required for the types of businesses associated with the Industrial Revolution. This demand sparked the creation of investment banks, among other financial innovations, in the nineteenth century. These banks were able to lend funds for considerably longer periods of time, such as the modern-day 30-year mortgage, thus allowing firms to make lumpy capital investments that required some time to bear fruit. These features of formal institutions—their larger pools and the possibility for longer-terms loans—were especially important in the industrial age, when the cost of acquiring technology strained the resources of traditional personal finance. Formal institutions also tended to act in increasingly impersonal ways, which was another great advantage over the personal capital markets of early modern times. In the case of the village capital market, for example, the relationship between creditor and debtor was most likely both personal and unequal. The borrower generally had to be known to the lender or else there would be no way to determine their creditworthiness. Moreover, the lender was most likely in a superior economic position since he or she had access to funds that others needed, so this relationship was most likely an unequal one.32 Individuals in a position to lend funds were generally in a position of strength vis-à-vis their debtors, as they had surplus funds as a result of their positions as landlords, noblemen, tax collectors, and so on. The personal element of financial intermediation and the power imbalance between creditor and debtor meant higher costs to the economy as a whole. Direct costs included high interest rates and harsh penalties for default. Indirect costs included economic activity foregone because of the impediments to borrowing. A brilliant entrepreneur with a pathbreaking idea but with poor relatives and no business contacts, for example, would have had no chance of raising a loan to make his idea into a business. Although the Parisian notaries provided a relatively impersonal market, in that the lenders and borrowers did not need to know one another, for example, their own personal connections to both parties were central to the market’s operation, giving them a great deal of control over capital flows. Finally, formal institutions provided their economies with the liquidity crucial to stimulating both consumption and investment. The use of collateral to secure a loan, rather than reliance on a person’s reputation, gave creditors a real asset they could liquidate in the event of default. This was also an advantage of stock exchange, which provided entrepreneurs a market to raise investment capital to found their businesses. With the advent of the stock and bond exchange, an investor could be one of thousands buying $100 in stock, rather than one of a handful of relatives investing thousands

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of dollars in equity capital. While relatives might have a hard time extricating themselves from a family obligation, a stockholder simply need sell the shares to another willing investor. Because shares were transferable, investors were able to sell those shares if the company did not match their comfort level of risk taking. This important secondary market spread risk, introduced anonymity, and reduced the barrier of entry to investment.33 The type of financial institutions an economy possessed turned out to be very important in influencing the manner and speed in which it developed. Many examples from nineteenth-century Europe and the United States illustrate the variety of ways financial intermediation affected economic development. If we take banks, for example, we find four separate and highly instructive cases. Britain’s industrial revolution of the eighteenth and early nineteenth century took place in the context of a long period of agricultural and commercial expansion that had gone a long way toward promoting early manufacturing. The financial revolution of the sixteenth and seventeenth centuries had long standardized the credit mechanisms that most businesses required to operate. And the technology employed in the early industrial ventures was fairly simple and inexpensive, meaning that most early industrialists could finance the acquisition of new machines through retained profits from previous years. In this environment that displayed little demand for large loans at long terms, the development of financial institutions tended to emphasize short-term credit to provide the liquidity firms needed for day-to-day operations.34 Britain had the luxury of industrializing first and therefore developing the required supporting institutions at its leisure. Later industrializers did not have this same luxury. They were under pressure to catch up to Britain, which meant buying technology as well as expertise. This pressure created the demand for financial institutions that could provide industrial entrepreneurs with larger sums of capital at longer terms. Where these institutions were present, industrialization flourished. Where they were absent, industrialization lagged. This relationship between financial institutions and economic development is brought into relief by the divergent cases of France and Germany. The Revolution of 1789 virtually eliminated France’s long-term credit market thanks to the twin problems of massive political uncertainty and hyperinflation. The Parisian notaries who had been important providers of long-term credit in early modern times withdrew from banking activities over the first half of the nineteenth century. Their information advantage (connections to savers and borrowers) was eroded by a new national loan register at the same time that they faced competition from new large-scale

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investment banks formed at mid-century.35 The great banks that formed after 1850, including the Crédit Foncier, a mortgage bank, and the Crédit Mobilier, an investment bank, either failed in the Great Depression of 1870 or abandoned long-term lending for commercial banking, leaving France with no institutional source of long term credit after 1880. The absence of alternatives for large-scale capital mobilization meant that France’s industrial sector would be characterized by single-proprietorships to an overwhelming degree at the end of the nineteenth century. A full century after the onset of the Industrial Revolution, the French economy remained predominantly rural and French industry remained small of scale. Germany was an important case where diversified financial institutional development supported rapid industrialization. The distinguishing feature of the German financial system was the joint-stock universal bank, which engaged in both short-term credit and long-term investment banking and which had its heyday after the 1870s.36 The universal bank provided everything to its clients—short-term working capital finance, long-term loans, and initial public offerings of the industrial firm’s stock. In addition, they provided credit to foreign merchants and to German exporters to make sure that the goods produced by their industrial affiliates could get to market. They were huge, activist banks that often literally served as a financial arm to industry. Because these mega-banks were backed by a lender of last resort, the Reichbank, they could take risks in industrial lending that they might otherwise be unable to do.37 The combination of large capital reserves and government backing meant that German banks could well serve industry’s financial needs. In the United States, banks were crucial to the successful industrialization of New England, albeit in a different way than the German universal banks. New England’s financial institutions presented an interesting mix of personal and institutional financial intermediation.38 Here, traditional kin groups interested in founding industrial enterprises used formal institutions to expand the resources of personal contacts. Specifically, kin groups formed banks in order to draw on the savings pool of their community through the sale of shares. They then used the capital they raised to fund family-based businesses, many of them industrial ventures. This was a twist on what families had done for centuries. By adapting the increasingly common institutional framework to personal or kinship finance, the resulting banks gave families access to a larger pool of capital resources to finance their businesses. Moreover, because they knew their borrowers intimately, they were able to make industrial development loans at significantly lower costs than they would have incurred in the open market. This was not an impersonal or anony-

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mous financial market, but it was a robust and successful one that in the long run gave New England a significant edge in economic development over other regions of the United States.39 In spite of this abundant historical evidence of the relationship between financial institutions and economic growth, not all economists and economic historians find merit in this avenue of research. These scholars operate on the premise that the proper institutions will naturally arise to meet demands generated in the marketplace. Variations in institutional formation, such as those witnessed in Europe, filled the need of a particular economy at a particular moment in its development. That this bank or that exchange emerged at a point in time, therefore, is not a surprise but rather an efficient response to an opportunity that warrants no further study.40 This presumption that the right institutions will naturally evolve to meet demand does not hold up to qualitative nor quantitative evaluation. Political events regularly dealt the financial markets setbacks, evidenced by the retrogression of the French credit markets in the aftermath of the French Revolution, as identified by Philip Hoffman, Giles Postel-Vinay, and JeanLaurent Rosenthal. Attempts by France to remedy this setback by fostering investment banks failed, although not without first destroying the banking business of the Parisian notaries.41 Britain’s financial institutions in the nineteenth century remained almost exclusively dedicated to commercial banking even in the face of a serious industrial challenge by Germany that, scholars argue, demanded the development of British investment banks.42 The German banks that financed this industrial challenge themselves were the product of a series of independent institutional developments that took place over the course of decades.43 The emergence of financial institutions, then, historically was far from natural. Rather, the elements conditioning institutional formation, and the effect of those institutions on economic growth, have varied greatly in historical experience. Understanding the interaction between financial intermediation and economic growth first and foremost is a task of studying the institutions themselves. When, how, and why did financial institutions form? What effect did their form have on economic growth? How did changes in the political or regulatory environment affect their performance? Research into these questions has importance for modern-day policymakers focused on the developing world because financial intermediaries do not all take the same form nor fill the same function. Commercial banks, for example, lend almost exclusively at the short term, twelve months or less, while mortgage banks typically lend at the very long term, from five to fifty years. Universal banks combine short-term and long-term lending and sometimes act as

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brokerages and business managers. The number, size, and mix of these institutions in an economy will condition the availability of credit, the terms at which that credit will be lent, and the types of borrowers who will be accommodated. In addition to the institutional format, bank lending and institutional stability are conditioned by the presence or absence of a network in which they operate. Commercial and universal banks might be organized as unit banks or they might operate as part of a branch network, depending on what the government regulatory legislation allows. Unit banks stand alone as selfcontained businesses, while branch banks are part of a network. The reliance on local sources to cover local uses in unit banking reduces a bank’s ability to accommodate its clients. Naomi Lamoreaux shows that the unit banks founded in the first part of the nineteenth century specifically to finance industrial ventures had turned increasingly toward commercial finance in the second part of the century as a result of the mismatch between their resources and the capital requirements of their industrial clients. Constrained in size and geography, they became increasingly unable to finance the largescale industrial products and technologies of the second Industrial Revolution.44 Branching, on the other hand, allows a bank to move resources from regions of surplus to areas of scarcity. This flexibility is observed in nineteenth-century England and is one reason, scholars hypothesize, that British bankers did not feel pressured to form universal banks.45 The geographical diversity of a network can serve to diversify a bank’s risk because it reduces an individual branch’s vulnerability to a downturn in local economic conditions. Unit banks, conversely, have historically been far more vulnerable in the event of a downturn, both because of their local exposure and because they do not have access to a network’s funds to cover their obligations. Research by Eugene White identified an inverse relationship between branching and bank failures in the U.S. banking industry in the 1920s.46 The beneficial effects of branching on bank system stability are further indicated by Canada’s experience, in which its branch-banking system produced a far lower incidence of bank failures than the U.S. unit-banking system in the first decades of the twentieth century. Political considerations, not economic goals, may also influence the form these institutions take. Research by Mark Roe demonstrates the great influence political considerations can have on corporate structure.47 He finds that economies with strong social welfare goals, such as those in Europe, favor a corporate format that closely ties ownership and management. This permits managers to run their businesses so to achieve social goals, such as employ-

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ment and high worker living standards, rather than profit maximization. This is virtually unthinkable in the North American market, where firms typically have a diffuse form of ownership that favors shareholder returns over employee welfare. While Roe does not assess the implications of these two models for economic growth, it seems that such implications would be important. The first model protects worker income but may hinder broad economic development by limiting business expansion. The closely held nature of stock ownership in such firms also reduces the ability of the stock exchange to allocate productive resources. The second protects shareholder income by maximizing profits, thereby creating higher overall rates of growth and standards of living, but the distribution of those gains disproportionately benefits those with means.48 Politics influencing corporate structure affect the ability of the stock market to efficiently allocate capital. Financial institutions, then, can be shaped by political agendas rather than spontaneously arising to fill a perceived need, with ramifications for business finance and economic growth. These institutional and political determinants of financial development matter a great deal for economic growth. Cross-country comparisons of the relationship of different forms of financial intermediaries, such as banks and stock markets, to economic growth identifies a strong correlation between the degree of development of the financial sector and the pace of economic growth of a nation.49 Financial system development promotes economic development by facilitating business formation and expansion through the efficient allocation of capital. The efficiency of the financial sector, in turn, depends on legal traditions and institutions, the incidence of political and economic corruption, and the nature of the business regulatory environment. Financial institutions poorly conceived or narrowly defined can hamper or limit access to capital, thereby slowing or impeding economic development. What is clear from this body of research is that these institutions did not naturally or spontaneously arise to satisfactorily meet some market demand. Rather, how they formed and what importance their form had for economic growth was a function of regulatory environments and economic conditions. Therefore, we need to investigate the formation of capital market institutions and their interaction with the economic agents they served to untangle the relationship of financial institutions to economic development. Research on Latin American institutional financial intermediaries is sparse, but the small body of work that exists demonstrates an important link between financial-sector development and broader economic development. Stephen Haber’s research comparing industrialization processes in the

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United States, Mexico, and Brazil, for example, found that the relative development of a system of financial institutions was the crucial element in determining the resulting pace and scope of industrialization in each case.50 The United States and Brazil, which had the better-developed financial systems thanks to relatively low barriers to entry, gave industrialists easier access to capital than did Mexico, where government regulatory policy carefully guarded the right to establish banks. Both the United States and Brazil experienced industrialization along a fairly broad spectrum of firms of all sizes. The relatively easy access to capital in these two cases promoted competitive, productive, and numerous industrial establishments. The highly restricted capital market in Mexico meant that only entrepreneurs with connections to the government could gain access to the credit required for industrial development. The sad result was that a few dominant and inefficient industrial conglomerates developed that did little good for the country’s long-term economic development. Low industrial productivity generated by a restricted financial market affected wages, employment, and standard of living. The sort of financial democracy that existed in the United States and Brazil, then, gave them a significant long-term advantage over Mexico in the nineteenth century. Haber’s work broadened our understanding of the Mexican case, previously examined in a study of the failed experiment with a development bank in nineteenth-century Mexico.51 The Mexican government was not willing to open the country up to a real banking system, preferring instead to develop institutions that could be directly controlled by the dictator Porfirio Díaz and his inner circle. Although Díaz had an explicit modernizing agenda, it did not include anything as rogue as market-driven economic development. Instead, it was a system based on granted favors. The death knell for broad-fronted economic development was the fact that no other institutional arrangements or markets supplemented or substituted for this stunted bank sector.52 Research on the Mexican stock and bond exchange reveals that this potential alternative capital market served a very narrow clientele. Instead of providing an important resource for industrial finance, the data on the Mexican exchange shows that it was primarily a vehicle for financing mining corporations and little else.53 If the Mexican Bolsa, or stock and bond market, represents the narrowed scope of Latin American institutional development, the Argentine capital market presents a good example of what financial intermediation can contribute to economic development.54 Recent research on the Argentine Bolsa before 1930 finds that it demonstrated a level of institutional development

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and integration similar to contemporary stock exchanges in the industrialized world. The amount of the nation’s business concerns represented on the stock exchange was comparable to other European late developers and represented a high proportion of Argentina’s industrial concerns.55 Moreover, returns to investment in the stock market demonstrate that this market performed in a similar manner to the other major contemporary markets. Finally, it was well integrated into the international capital markets, giving investors in Argentina’s economy access to financial capital at a similar cost and with similar ease as in other parts of the world. This access to finance supported small but broad-based economic development that was quite healthy up until the First World War and that only suffered a profound setback with the onset of the Great Depression. Intervention in the capital markets by economic nationalists after 1930, according to Alan Taylor, depressed Latin America’s rate of capital accumulation and its rate of growth by distorting the cost of capital and driving international investors away.56

The Role of Financial Institutions in Brazil In spite of the clear central influence of financial institutions on the range of development experiences, both positive and negative, they have never captured much of a place in the literature on Brazilian development.57 None of the central theses on coffee and industrialization gave close scrutiny to financial intermediation beyond assuming that it played some supposed yet illdefined role. Warren Dean suggested that new banks formed during the coffee boom “might use some of their credit-creating capacity to finance manufactures,” while Wilson Cano noted that planters cultivating less productive lands would have had reason to diversify their investments to attain a better return, “thus transforming coffee capital into industrial capital.” 58 These notable works gave scarce attention to the mechanisms that allowed this transformation to take place. In fact, few scholars concerned with Brazil’s economic transformation in the nineteenth century have focused on the financial institutions that allowed the transfer of domestic resources from the agricultural to the modern sector to occur. In this book, I argue that the financial institutions so neglected in the Brazilian literature were precisely what made Sa˜o Paulo’s development so successful. In spite of a slow and conservative start, Sa˜o Paulo’s financial intermediaries were compelled by the sudden sweep of the coffee boom to quickly evolve from the highly personal to the modern, formal, impersonal intermediaries that historically have so benefited economies. Thanks to the

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rapid economic expansion brought on by the coffee boom, this evolution from personal to formal intermediation took place over the span of a few decades. From 1880 on, banks, brokers, and two separate stock and bond exchanges arose to create complementary institutions that first helped improve the conditions under which the economy operated (liquidity) and then helped raise finance capital for the sorts of large-scale domestic enterprises that built Sa˜o Paulo’s industrial base (investment). Stimulated by economic expansion on the one hand and regulatory legislation on the other, these increasingly formal institutions channeled the seemingly limitless wealth generated by the robust coffee economy into local business and development projects. These businesses and projects would lay the groundwork for explosive regional development. This book tells the story of the growth, development, and expansion of the financial sector in Sa˜o Paulo in the period 1850 –1920, which demonstrates the clear trend toward increasingly formal intermediation. Initially based on personal relationships or family ties, the small Sa˜o Paulo banking sector before the coffee boom of the 1880s was suspended in a state of inertia. Bankers, predominantly foreign, were a risk-averse lot, lending short-term capital to well-known citizens. With the explosion of the coffee economy after 1880, however, bankers’ practices became strained by liquidity and credit demands and the sector quickly adapted in order to take advantage of the newly growing market. Bankers remained reluctant to move beyond short-term lending practices, the subject of Chapter 2, thanks to the conservative regulatory environment of the Brazilian Empire. But they expanded in number and introduced new, more flexible products and generally facilitated the greater circulation of goods and services. Bankers’ aversion to risk meant that capital for business investment had to come from somewhere else. Chapter 3 examines business finance under the Empire and finds that it was constrained by government policy as much as it was by bank lending practices. The imperial government was rather divided over the question of whether the domestic economy warranted nurturing. Choosing to err on the side of caution, the legislators created the provisions for the formation of joint-stock companies, the equivalent of the modern corporation, but saddled investors with such extraordinary liability that few businesses were able to raise funds in this way. Only big, bulky, capital-hungry companies like railroads and public utilities found any backers, and these were only able to do so because of explicit or implicit promises of government financial support. The coffee boom, then, created a significant tension in the economy between demands for services and consumer and

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producer goods, on the one hand, and the lack of mechanisms to fund them, on the other. This tension was relieved in November 1889 when the Republican coup toppled the conservative Empire and replaced it with a pro-business regime. This new regime immediately sought to reform the regulatory legislation that had done so little for domestic development, replacing it with permissive legislation that relieved companies and their investors of virtually all fiscal responsibility. Under the new regulatory environment of the Republican regime, joint-stock companies became wildly popular and so numerous that the few brokers that traded the handful of railroad and utilities stocks quickly organized a formal stock and bond exchange. The Sa˜o Paulo Bolsa, as it was known, became the premier institution for business finance and is the subject of Chapter 4. After a decade of slow but profound structural change in the 1890s, the Sa˜o Paulo Bolsa experienced a decade of rapid expansion and diversification into equity and debt issues for a broad range of new urban and industrial ventures. Significantly, the Bolsa financed primarily medium-to-large companies, indicating that it directly aided in business formation that was beyond the reach of traditional kin group or community finance. Moreover, the Bolsa was a purely domestic institution. While foreign capital had a sizable presence in the Sa˜o Paulo economy, it did not compete with or supplant the domestic capital formation that took place in Sa˜o Paulo’s urban areas through the use of the joint-stock format. The regulatory reforms of 1890 succeeded in promoting long-term investment through the creation of the Bolsa, but they also sought to get banks into the long-term lending business. With an eye toward creating the universal banks that had been so important to German industrial development, the Republican government offered a package of incentives and concessions to banks willing to engage in investment-grade lending. The initiative failed. Just three of more than thirty banks took the government up on the incentive package. Chapter 5 asks why financial entrepreneurs were so unwilling to lend at the long term and argues that bankers were quite rational in their reticence: investment banks were not profitable. Favorable legislation could not make up for decades of ambivalence about domestic economic development. In fact, within a couple of years of reforming the regulatory environment and stimulating growth, new administrations applied the brakes and threw recently formed companies out of business. The investment banks themselves were victims; none of the three survived past the turn of the twentieth century. While bankers were not much interested in investment banking, they were more than happy to continue offering their commercial banking prod-

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ucts. In fact, the sector underwent significant expansion in size and in geography as a result of the 1890 reforms. Because banks were joint-stock companies, they benefited from the elimination of shareholder liability and attracted investors in droves. Chapter 6 looks at the expansion and maturation of the commercial banking sector that resulted. In the 1890s, when urban businesses of all stripes were forming almost daily, banks had to be creative and flexible. The expanding and shifting economic environment meant that banks needed new mechanisms to evaluate client transactions. Banks responded by specializing in the regions they served, the types of clientele they served, and by forging links to non-bank companies by sharing members of their boards of directors. These links were like the old factor-planter ties of the pre-banking days when financiers and planters were drawn from the same class, even from the same families. Planter-financiers and planter-entrepreneurs were now engaging in commercial and industrial business development as well, and used the familiar device of blood ties to both gather information and limit risk. What is most striking about this period, however, is that the importance of personal ties quickly fell away. By the first decades of the 1900s, the personal links that had helped bankers navigate the changing economy had evaporated. The transition from personal to formal financial institutions was complete. Chapter 7 sums up the findings of this study. The early emergence and maturation of financial intermediaries from small, conservative, personal institutions into larger, more flexible, and formal institutions provided Sa˜o Paulo with the liquidity and capital it needed to diversify its economy. Initially operating via highly personalistic relationships typical of premodern and early modern Europe, financial intermediaries took on an institutional form around the middle of the nineteenth century. These intermediaries first helped smooth the flow of business by facilitating the circulation of goods and services, but later helped finance new, larger, and more ambitious business projects. Moreover, this happened quickly. Before the 1880s, capital market functions were fulfilled by individuals, usually merchants or coffee and sugar factors, or by export houses.59 By the 1890s, Sa˜o Paulo was home to a large banking sector and a formal stock and bond exchange. Relationships between bank and non-bank companies included personal ties, but these disappeared by the turn of the twentieth century. By the time Sa˜o Paulo’s economy took off, in the period 1909 –13, the transition from personal to formal intermediation was complete. Not only did Sa˜o Paulo’s financial institutions develop at a rapid pace, this was a local, domestic phenomenon. No foreign capitalists, or even Brazilian capitalists from the wealthier region of Rio de Janeiro, overshadowed

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Paulista financiers. Although Sa˜o Paulo’s banking sector was initially formed by a combination of old foreign banks and one Rio-based domestic bank, by the time the coffee boom was in full swing these institutions had been dwarfed by local banks concerned almost exclusively with regional enterprise. Although the value of foreign capital invested in Sa˜o Paulo was worth more than the sum total of domestic capital invested in the Sa˜o Paulo stock exchange, domestic entrepreneurs flocked to the exchange to fund a broad range of companies that never attracted foreign investors. The broader development of the Sa˜o Paulo economy from the very important development of the railroad network to the electrification of interior towns was funded with native Paulista capital via formal financial institutions established by local entrepreneurs. This institutional development, combined with its maturation from the personal to the impersonal, meant that an entrepreneur with a good idea was increasingly likely to find financing available through the Sa˜o Paulo capital markets.

Chapter 2

Native Capital under the Empire

Brazil’s independence from Portugal in 1822 was a watershed event for the obvious reason that it required the establishment of new political institutions to govern the new nation, but it was also a watershed because it simultaneously created a demand for economic institutions that would help the economy function. Brazil’s independence from Portugal severed ties that for centuries had placed the former colony in a status that was subject to the intentions and goodwill of the Crown. Now, an economic independence that had begun to form in the late eighteenth century was formalized by the Grito de Ipiranga. Prince-regent Pedro’s defiant declaration that he would not leave Brazilian soil meant that the economy required national institutions to govern its material life. The history of financial intermediaries in Brazil, then, mirrors the history of the new nation. This chapter examines the history of one type of financial intermediary, banks, in the province of Sa˜o Paulo to illustrate when, how, and why this corner of Brazil developed formal financial institutions.1 It does this by examining the legal environment and the economic conditions that gave rise to them. Their evolution, from personal to formal, from few to abundant, matched the dramatic shift in Brazilian fortunes over the course of the nineteenth century. As the center of economic activity shifted from Northeastern sugar and cotton to Paulista coffee, and as the principal labor force shifted from non-wage slaves to wage-earning immigrants, tension between

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rudimentary personal finances and the rapid pace of expansion overwhelmed the personal relationships on which finance depended. This meant that financial institutions had to become increasingly modern and sophisticated to serve the changing economy. Private initiative and government regulatory legislation helped effect this transition. By the end of the Empire in 1889 the transformation from informal to formal financial intermediation in Sa˜o Paulo was largely complete.

Demand for Financial Intermediaries in Nineteenth-Century Brazil Formal financial institutions were almost entirely absent from Brazil before 1850 because the needs such institutions fulfilled— credit and liquidity— were small and easily provided by personal financial intermediaries. From its colonization in the sixteenth century, Brazil was a primarily agricultural economy that had little use for money. Land was acquired through grants, inheritance, or squatting. Productive inputs in the agricultural sector were paid for out of export receipts. Wages were hardly a pressing concern, as fully half of the Brazilian population at the time of independence were slaves, non-wage-earning by definition, and much of the other half worked in the countryside as tenant laborers or sharecroppers.2 No property or income tax existed in Brazil that required money for payment. In fact, the only taxes in Brazil through most of the nineteenth century were on imported goods, paid at the customs house.3 The small monetary economy that did exist in Brazil was restricted to the few urban centers located along the coast. Some production for internal consumption existed to support the urban centers, primarily agricultural in nature, but the internal economy of Brazil was largely undeveloped. Furthermore, much of the consumption among urban dwellers was tied to foreign trade, with financing handled through merchant middlemen and import/export houses. In short, Brazil as late as 1850 was a primarily rural and relatively illiquid economy. In this environment, most financial relationships were personal or “informal.” That is, they rested in the established ties between one person and another, whether they were kin, businesses partners, or compatriots. The existing trade in coffee at mid-century took place via middleman and mule train, both of which were to experience significant changes. The middleman, known as the comissário, provided the financial link between planter and exporter. The comissário received the coffee shipments from the interior, prepared them for sale, and acted as broker in the transaction with the ex-

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port houses.4 He used the proceeds from the sale to pay the planter’s urban bills, buy and ship back the tools and supplies required by the planter, and sometimes advanced the planter money. This pattern was disrupted in the nineteenth century by the end of the slave trade and the concurrent swift growth in demand for Brazil’s newest product, coffee. The convergence of these two events created a series of problems for an illiquid economy with few formal financial institutions, in which much of the nation’s wealth was represented by the stock of land and slaves. The end of the international slave trade provoked a change in economic relations that led to the rise of institutional financial intermediaries. In particular, the resulting growth in the internal slave trade coupled with the introduction of wage labor required a significant increase in liquidity and caused the Brazilian government to face up to the demand for banks. The effect did not follow immediately on the heels of the cause, but the impetus, in hindsight, was profound. Pressured by the British to outlaw the importation of slaves, Brazil agreed to end the slave trade in 1830.5 The formal abolition of the trade in 1831 had an initial dampening effect on the number of slaves entering Brazil, but the rapid rise of Brazil’s new cash crop, coffee, fueled demand for slave labor. Coffee had grown from Brazil’s third most important export crop at independence in 1822 to its principal export product by 1835.6 In that year, the illegal slave trade brought 745 new slaves to Brazil. By 1837, the number of slaves entering Brazil had climbed to more than 40,000. It was not until 1850 that the British government exerted sufficient pressure to force the Brazilian government to forgo its primary source of labor and actively enforce the abolition of the slave trade. By this point, however, almost 500,000 new slaves had been brought into the country.7 The rise of coffee and the demise of the slave trade introduced a problematic set of circumstances to the Brazilian economy. Planters required labor to expand the coffee plantations enough to keep up with world demand. Coffee production doubled from the 1840s to the 1870s, and doubled again by the 1890s.8 At the very same time, the labor supply was precarious. The Brazilian slave population had not, historically, reproduced itself.9 Therefore, natural increases in the slave population were unlikely. Indeed, the slave population in Brazil declined steadily after the end of the slave trade. There were an estimated 2,500,000 slaves in Brazil in 1850, 1,540,000 in 1874, and just 723,000 slaves on the eve of abolition in 1888.10 The initial solution to the labor supply problem was an internal slave trade. Slaves were moved from the declining sugar-producing regions of the Northeast to the coffee plantations of the Center-South. In the 1850s alone,

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more than 26,000 slaves were imported into the province of Rio de Janeiro from other provinces.11 An additional 32,000 flowed into Rio de Janeiro from the Northeast in the decade between 1874 and 1884, while 41,000 entered Sa˜o Paulo in the same period. This interregional trade helped Sa˜o Paulo acquire the slaves it needed during the initial expansion of coffee planting in the late 1860s and early 1870s, from just 80,000 in 1864 to 175,000 in 1874, but could only help to stem the decline thereafter.12 In spite of substantial north-south migration during the nineteenth century, followed by intraregion migration within the Center-South from areas of low productivity to areas of high productivity, the internal slave trade was a temporary solution at best. It could do nothing to forestall the inevitable aging and decline of the slave population. In the 1850s over half of the slaves in Vassouras, at that time the premier coffee-growing region in Brazil, were of “efficient working age,” but this had dropped to 40 percent by the 1860s.13 The aging trend among the slave population continued from there. The 1872 census reported that almost one in five Brazilian slaves was more than fifty-one years old. The same census showed the stark reality of slave demographics: the proportion of slaves in the total Brazilian population had fallen from half in 1822 to 16 percent fifty years later.14 In addition to the internal slave trade, the Brazilian government sought to bolster the labor supply by denying free men access to land. This was achieved through the land law of 1850, which introduced a set of formal restrictions on land ownership.15 This law was prompted by the recognition that the abundant supply of arable land in Brazil tended to promote informal forms of land occupation. It was felt that if free laborers had unlimited access to land through squatting, they would have no incentive to work for planters. The land law was intended to create obstacles to land ownership. It required proof of ownership of land acquired through grants and inheritance, and cash payment for all newly acquired lands. Any property that could not be documented reverted to the government for future sale. Its purpose, then, was to create obstacles to land ownership by the working classes. The permanent solution to Brazil’s labor supply problem, pursued most aggressively in the province of Sa˜o Paulo, was the importation of wage laborers from southern Europe. One important planter, Nicolau Vergueiro, had experimented with European workers as early as mid-century, but it was not until the 1870s that a formal system was in place to attract immigrant laborers. The imperial government agreed to subsidize the transportation costs of immigrants who agreed to work on coffee farms, and planters agreed to pay the immigrants’ expenses for their first year so that the workers would

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not arrive in Brazil laden with debt.16 Sa˜o Paulo province, which by the 1880s was surpassing Rio de Janeiro as the principal coffee-growing region in the country, established the necessary infrastructure to process the new arrivals and distribute them to the coffee plantations.17 In this manner, more than 800,000 immigrants came to work as free wage laborers on Brazilian coffee plantations from 1870 to 1900.18 The growth of commercial activity from the coffee trade and the introduction of a wage-earning class into the economy had a common effect: both increased the monetary needs of the traditionally illiquid economy. The growth in foreign trade from booming world demand for Brazilian coffee changed the liquidity needs of the coffee economy by accelerating the commercial relations of the trade. Planters needed capital to expand their plantations, which was tantamount to a long-term loan since trees did not bear fruit for four to six years, and they needed capital to meet a new wage bill. Comissários, needing capital to take advantage of the greater volume in the import and export trade, became less willing to accommodate planters for the long periods they had customarily agreed to.19 The informal credit system which had long served export agriculture, then, was strained by the expanding export trade. In addition to new capital requirements to expand production, the expansion of the coffee trade also generated new capital requirements to improve the physical infrastructure of the export system. The export trade had traditionally relied on mule trains to get product to market. This system, however, proved to be inadequate in the face of rapid growth in trade. It was time consuming and of limited physical capacity, making transportation very costly at a time when planters had everything to gain from expanding their plantations and getting their product to market faster. Additionally, the limitations of the mule train acted as a disincentive to territorial expansion away from the port cities just when such expansion was made lucrative by growing demand. In short, the physical infrastructure of foreign trade proved to be a real bottleneck to the expansion of coffee production. The solution was to construct railroad networks and improve port facilities. In order to expand plantations and improve the physical infrastructure, Brazilians needed money. The static capital resources of the Brazilian economy, captured in property, slaves, and equipment, had to be transformed into liquid capital. This could be achieved on the necessary scale only through the creation of capital market institutions such as banks and stock brokerages. To a great extent, then, the monetary resources required for plantation expansion and infrastructure improvements provided the first strong impe-

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tus for the lasting establishment of financial institutions in the Brazilian economy.20 Some financial institutions predated the abolition of the slave trade but these were few. The only bank operating in Brazil in the years immediately following independence was the Banco do Brasil, founded in the capital city of Rio de Janeiro to act as a central bank to the imperial government. Its principal function was to float bonds to finance the new government, which it did, but it repeatedly failed to honor them. The history of defaults plagued the bank. Although an occasional news story in today’s Wall Street Journal might allude to the “160 year old Bank of Brazil,” in fact, there were several, formed one after the other, each failing in turn. This bank, as flawed as it was, only served the government. Aside from its interests in having a central bank like the Banco do Brasil, the new Brazilian government did not take any action to promote formal financial institutions before 1850. In fact, it didn’t regulate business at all. Because Brazil’s wealth was so overwhelmingly based on agricultural exports, the Brazilian government didn’t give much thought to promoting or developing domestic business.21 There didn’t appear to be any such need. The import/export houses had long experience in Brazil, and its largest trading partner, Britain, supplied most of the commercial goods demanded by the consuming class for much of the nineteenth century. In this environment of indifference a handful of early private banks in Brazil, the type we typically think of as taking deposits or making loans, developed free of any sort of government stimulus, oversight, or regulation.22 Most of these banks were commercial banks. Commercial banks were banks that specialized in short-term, commerce-based transactions. Their funds came from investors and depositors, and their business was to discount commercial paper and extend lines of credit backed by some physical collateral. Six such banks were founded between 1838 and 1850, one each in the provinces of Bahia, Maranha˜o, Pará, and Pernambuco, and two in the capital, Rio de Janeiro.23 They took deposits, extended loans, and discounted commercial paper, making their money on the spread between the low rates of interest they paid depositors and the interest they earned on short-term (twelve months or less) secured loans.24 Two of these banks, the Banco da Bahia and Banco do Pará, engaged in slightly longer-term lending. The Banco da Bahia was the first ever to hold regional industrial and agricultural development as its objective. To this end, it paid higher rates to depositors in order to attract capital, and lent money at the medium and long term. The Banco do Pará, like the others, focused on loans and discounts, but it also

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dedicated a portion of its assets to medium-term loans to stimulate industrial development in the province.25 In addition to the discount and credit facilities they created, these first private banks acted as banks of issue. Each printed notes known as vales, or monetary equivalents.26 In theory, these vales operated as extremely shortterm credit instruments which expired within three to five days of their issue. In practice, however, they circulated beyond their expiration date and were accepted as money in transactions.27 These few early private banks, then, provided liquidity and circulating medium to their markets. The fact that these first banks developed autonomously and effectively issued money without any legal framework or oversight concerned the government, and a debate ensued at mid-century about the possibility of regulating such institutions. The principal concern was that the private banks were taking deposits and issuing currency without any sort of regulation that protected them or their customers against speculation or fraud. The Banco Comercial do Rio, for example, operated for five years before it was officially recognized and regulated through a government charter. It was in 1850 that the government sought to actively regulate the banking business. The impetus for this regulation appears to have been the abolition of the slave trade. As we know, the trade had been abolished in law almost two decade earlier, but formal abolition only seemed to fan the flames of the trade. From 1830 to 1850 robust illicit trade continued, with little official interference. As many as 50,000 slaves per year were imported in the last years of the slave trade, a significant portion of the 1.6 million that were imported since the turn of the century.28 This trade had absorbed large amounts of Brazilian capital, which was freed up for other uses when the slave trade was abolished at mid-century. The virtual flood of investment resources on the market, and the immediate increase in value of the primary collateral for loans—slaves— caused banking establishments to “[mushroom] on all sides” to collect and distribute these funds.29 Six isolated establishments were tolerable. Mushrooming, unregulated establishments were not.

The Commercial Code and Financial Intermediation in Brazil The government stepped in with the first comprehensive piece of commercial legislation in the independent nation’s history, the Commercial Code of 1850. The Commercial Code was meant to protect investors and depositors from fraud, rather than to act as a comprehensive plan for Brazilian banking, but in fact created the legislative framework on which formal financial in-

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stitutions were built. From 1850 on, bank practices in Brazil were regulated by a series of laws emanating from the Commercial Code.30 The most striking characteristic of the Commercial Code as it related to banking was that it quite simply formalized the personal relationships prevailing in the Brazilian economy. This was an elementary but important expression of the types of tensions felt by the financial sector. Factors, merchants, planters, and exporters had for centuries developed the personal financial relationships, based on long experience and established reputation, that greased the wheels of their transactions. The faster pace of the economy after 1850, resulting from both the rising production of coffee and the freedup capital after the end of the slave trade, apparently strained these relationships. The government, for the first time, felt the need to record and codify the types of exchanges observed on the wharves and in the warehouses. It did not limit or reorder or mandate practices but wrote them down and subjected all parties to standardized protection under the law. The Commercial Code defined bankers as merchants whose primary operations were banking operations, and it said that banking operations would be ruled by the general guidelines of contracts established in the code.31 It contained provisions regulating the creation and enforcement of contracts, the responsibilities of service providers, the procedures for bankruptcy and lawsuits, the order of receipt of property in case of a business liquidation, and other contract-related procedures. More importantly, the code laid out the types of paper credit instruments that could be used as means of payment and standardized their format to eliminate fraud and enhance their acceptability.32 These included letters of exchange, promissory notes, planter drafts, and merchant credits. The standardization of these four types of bills of exchange revolutionized commercial transactions. While all had been in circulation, their acceptance was based on informal norms and the faith born of experience rather than on a clear set of rules. With the Commercial Code all four types of bills of exchange, though different in their terms and guarantees, became regulated by the following identical conditions: a bill had to be dated and contain the name of the place from which it was drawn, the amount payable, and the form of payment (money, merchandise, or other; if in money, which currency), the time and place of payment, and who would pay it. The term of payment of a bill could be on-demand or could specify a certain period of time, such as payable in the month of March. The most important aspects of the bills of exchange standardized in the Commercial Code, from the point of view of financial intermediation, were that they were transferable with a simple endorsement and that they repre-

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sented serious legal obligations on the part of all parties involved in their acceptance, transfer, and payment. The merchant that first received the bill could, with his endorsement, transfer the letter to any other party. The holder of the bill would typically sell it to another party or bank at a discount. The new holder of the bill would then present it to the drawer at its time of expiration and collect the sum in full, making a profit off the three-way transaction. This practice, known as discounting, had long been practiced by European merchants, and was in fact a central notion of early English banking.33 As in the English case, the Brazilian Commercial Code accorded this practice legal recognition, thereby lending a new power of acceptance to merchant paper as a type of currency. The rather indirect banking regulations contained in the Commercial Code were more carefully codified a decade later in a decree specifically drafted to regulate the creation and organization of banks.34 Any company that sought to provide banking services required a government charter to organize. This regulation defined banking services as trade, for others or on its own account, of the following: gold and silver in coin or bars, bonds of national or foreign debt, stocks in companies of any type, and negotiable paper. In addition, banks could make loans “of any type,” engage in currency exchange, take deposits, and open lines of credit. In sum, banks could undertake “any operations called banking or which tend to develop public credit.” 35 Not all banks could issue money, however. Banks of issue were specially regulated by the government.36 Still, all other banking services were permitted by this decree and were done so in rather broad terms that left plenty of room for differentiation among intermediaries. The passage of bank legislation laid the groundwork for the emergence of formal financial intermediation, but it did not immediately result in a large number of formal institutions because the legislation was quite restrictive. Banks were required by law to obtain a government charter in order to operate, but the process of getting a charter was not a simple bureaucratic one. Rather, it required an act of Congress.37 The Brazilian Congress received, evaluated in committee, and voted on all applications for corporate charters. The charters were granted on the condition that the Congress retained the right of fiscal oversight of the companies. The law requiring government charter was known to contemporaries as the “Lei dos Entraves,” or “Law of Impediments,” and was called an “instrument to annihilate the spirit of association.” 38 This initial development of banks in Brazil during the 1840s and 1850s, then, prompted government debate about the proper role of these financial institutions in the economy. Because of the importance given by policy-

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makers to exchange-rate stability, a product of Brazil’s export-orientation, and because of the prevailing belief that growth in the money supply would undermine the exchange rate, the imperial government chose to limit the activities of banks to areas that bore no influence on the money supply. The result was legislation which institutionalized the personal financial relationships that had developed over centuries to facilitate foreign trade. These relationships were based on secured advances of one year or less for agricultural producers, coupled with acceptance and liquidation of commercial bills of exchange for urban merchants and traders. Banks were, with few exceptions, prohibited from providing liquid resources to their markets by issuing notes. This restriction kept both the activities and the expansion of the banking sector in check for almost thirty years.

Personal Finance in Sa˜o Paulo Like most of Brazil, Sa˜o Paulo had no banks to speak of prior to the arrival of coffee in the 1850s, an economic event that coincided with both the abolition of the slave trade and the passing of the Commercial Code.39 Its economy had been of small importance in international commerce relative to other regions of the country. While predominantly a subsistence economy, Sa˜o Paulo did have commercial agriculture and trade before the arrival of coffee.40 Sugar production, for example, began to flourish in Sa˜o Paulo in the late eighteenth century and steadily expanded in the number of plantations and in labor employed until the mid-nineteenth century. An active mule trade between Minas Gerais, the mining region to the north, and Rio Grande do Sul, the stock-raising region to the south, also contributed economically. Despite this early activity, however, physical and service infrastructure in the province was minimal. Sa˜o Paulo had a relatively undeveloped port in Santos and had bad roads, making the transportation of products to port a costly venture in terms of spoilage and brigandage. The poor quality of Paulista sugar and a bad reputation for widespread fraud in its packaging and export further inhibited large-scale improvements in the physical and service infrastructure of the Sa˜o Paulo economy.41 Financial services in this era of early economic expansion were performed on an ad hoc basis. Relationships developed as needed to circumvent the problems of capital immobility (the fixed-asset nature of wealth) and illiquidity (lack of a circulating medium of exchange). This illiquidity is illustrated in the case of the famous Sa˜o Paulo mule trader and patriarch of a leading family of coffee planters, Antônio Prado. Prado started out by conducting troops of mules from Sa˜o Paulo to points north, especially the gold

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mining region in the province of Minas Gerais.42 It is instructive that he was often not compensated in cash because of the scarcity of a circulating currency. Instead, he had to accept years-old letters of credit for payment.43 This form of payment was common. The early expansion of coffee into the province of Sa˜o Paulo came at a time when all financial intermediation was personal. Coffee had originally followed the Paraíba River Valley down from Rio de Janeiro in the early nineteenth century, seeking new soils to replace the exhausted lands to the north. It was around 1850 that coffee production spread into the Paulista West, the region which became the classic Sa˜o Paulo coffee frontier. By the end of the decade, the annual production of coffee had tripled. By the end of the second decade, coffee production had grown another 25 percent and the provincial population had doubled.44 The province’s newly founded journal, the Correio Paulistano, dedicated the pages of its inaugural editions in 1855 to the inadequacies of the infrastructure in both rural and urban areas to handle this expansion. The population boom had brought twice as many people to feed, house, clothe, and transport around the state, but an ever smaller percentage of them were slaves.45 Complaints of a serious shortage of labor in the state and of a road network in shambles provide testimony to the pressure felt by planters because of this expanding demand for their agricultural products.46 The complaints about labor shortages and infrastructure problems were not new, as the province had experienced similar problems in the expansionary phase of sugar production in the 1820s, but the popularity of coffee lent a new urgency to the shortage. Coffee’s resistance to spoilage and rapidly growing demand made it immediately attractive to Paulista planters.47 The expansion of coffee stimulated the development of the Sa˜o Paulo capital market by creating a new and large demand for capital to expand plantations and buy or hire workers. The increased demand for loans created opportunities for both the development of the Sa˜o Paulo capital market and the expansion of coffee production. Take the example of Antônio Prado’s half-brother and son-in-law, Martinho Prado, one of the important early planters. Martinho was one of the investors in Sa˜o Paulo’s first bank, an affiliate office of the Rio de Janeiro-based Banco do Brasil, but he had significant income from extending credit at mid-century. Just as he was starting up his coffee business, Martinho appears to have shielded himself from its ups and downs by lending money and generating income from the interest. Family accounts show that Martinho Prado lent money at annual rates of from 12 to 18 percent, and that he generated as much as one-fourth of his income from bank dividends and interest payments from 1856 to 1864.48

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An almanac from the 1850s confirms the presence of many “capitalists,” men who lent money at interest and therefore formed a personal capital market.49 Fourteen men and one woman, the Marqueza de Santos, former mistress of the Emperor Dom Pedro I, were recorded as capitalists in 1858. These included six titled nobility (five barons and a marqueza), an imperial senator, untitled men related to the barons through marriage, and many associates.50 The fourteen men had multiple business connections; the majority of them were shareholders or directors of the Banco do Brasil, the Companhia Paulista Railroad, and the Companhia Ituana Railroad.51 Only four of the fifteen had no readily identifiable business connection to the remaining eleven. Together, this was a wealthy, connected, and entrepreneurial crowd. Lending wasn’t just for the wealthy, though; even the poorer members of Paulista society were involved in the personal capital market, lending out whatever savings they managed at interest.52

The Rise of Sa˜o Paulo Banks While Sa˜o Paulo’s population demonstrated great entrepreneurial behavior in the financial sector, the introduction of large-scale commercial agriculture would by the 1880s bring these informal services under great pressure and would lead to the creation of a formal banking sector. The problem was that when personal relationships prevail in finance, one’s ability to borrow depends directly on the financier’s capacity to lend. This lending capacity might not grow as quickly as the borrower’s needs or might not come with the longer time horizons essential for expansionary investment. Moreover, the reliance on reputation or direct connection to facilitate borrowing breaks down when new, unknown agents enter the market to exploit opportunities. In periods of economic growth, historically, such acceleration placed considerable strain on personal finance.53 Personal intermediation under these circumstances tended to get placed in a niche, and institutional intermediation emerged as a supplement during some period of transition. Because impersonal intermediaries draw on funds from an entire community or region, and because their loans are secured by collateral rather than reputation, their ability to lend is not constrained by the good fortune or business connections of any single individual. In eras of rapid growth, then, formal institutions have a distinct advantage over informal or personal arrangements. This is what we see in Sa˜o Paulo in the 1860s and 1870s; the pressures of the growing economy began to point up the inadequacies of personal financial arrangements. Even then, however, formal intermediaries such as banks do not necessarily or automatically promote

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diversification or development. That ability depends on the type of intermediary, the type of bank, that takes root.54 The characteristics historians and economists wish for in a banking sector are ones that lend themselves to the development of the economy. For banks to aid in the development process, by which an economy is transformed from activities generating low levels of product or income per capita to activities that permit an improved standard of living, they should both facilitate the circulation of goods and services and provide investment capital to new types of enterprise. The first mission is easily fulfilled through shortterm accommodations such as creating acceptance for a variety of types of commercial paper through discounting and turning illiquid wealth into liquid resources through secured lines of credit. The second mission is less easily fulfilled, for it requires banks to place their assets, the money they raised through selling equity or taking deposits or issuing notes, in loans with terms long enough to allow a new business to turn a profit.55 The longer the term, the more risk the bank is potentially taking on. The second mission, then, requires a commitment to economic diversification, good information about the investment to reduce risk, and some tangible reward for taking the chance. Most banks in Sa˜o Paulo’s early banking sector chose to concentrate on the first mission—liquidity—than on the second mission— development. Between 1856, when Sa˜o Paulo’s first bank formed, and 1889, when the Empire came to an end, nine joint-stock banks were formed and operated in Sa˜o Paulo. Eight of those banks were commercial banks dedicated to shortterm credit creation. That is to say, eight banks took deposits, discounted bills, and lent money, all on terms that set their commitments at twelve months or less. In addition to the joint-stock banks, five private banking houses operated in Sa˜o Paulo, also dedicated to commercial practices. The central operations of the commercial banks, discounting and lines of credit, provided liquidity to the economy by turning items of real value, but of little use in transactions, into cash. Discounting operations typically involved a bank advance on a promise of future payment based on a commercial transaction. For example, a coffee merchant might hold a letter of credit from an export house. That letter of credit promised to pay the merchant a set amount of money upon delivery of a set amount of coffee in four months time. The coffee merchant had the option of waiting those four months to receive payment or of “discounting” the letter by taking it to a bank and immediately receiving a cash advance at a slightly lower amount than the face value of the letter. The merchant made the judgment that “liquidity,” immediate access to money, was worth the discount. Lines of credit similarly

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provided liquidity in a related manner. Lines of credit pledged an object of value against the ability to draw funds from the bank. In the nineteenth century many types of valuable possessions, including slaves, were put up against lines of credit. Banks dedicated to short-term credit, while not particularly conducive to structural change because their time horizon was not suitable for investment, improved the efficiency of the Sa˜o Paulo economy because they facilitated the circulation of goods and services by accepting commercial paper. The bills of exchange standardized and protected in the 1850 Commercial Code had been the cornerstone of personal finance in Brazil and now comprised an important part of Sa˜o Paulo’s banking business under the Empire. The letters of exchange, promissory notes, planter drafts, and merchant credits, known collectively as descontos, accounted for most of the banking activity up to the 1880s. Sa˜o Paulo’s first bank came in 1856, just one year after the inaugural edition of the Correio Paulistano. The Rio de Janeiro-based Banco do Brasil felt there was enough business in the province to its immediate south to support an affiliate in the capital city of Sa˜o Paulo. The Banco do Brasil was formed as a joint-stock bank, meaning it sold equity shares to the general public and those shares could be freely traded. Because all joint-stock companies required a government charter to operate, and because all government charters required companies to file monthly financial statements with the government of the province in which they operated, we have a fairly comprehensive paper trail and a rich source of information on the operations of the banking sector.56 This paper trail shows that the Sa˜o Paulo affiliate of the Banco do Brasil was the first of nine publicly held banks to operate in the province of Sa˜o Paulo from 1856 to 1889.57 Not only was the Banco do Brasil the first bank founded in Sa˜o Paulo, it was the only publicly owned bank operating in the province for fourteen years. Its lone status suggests that the informal financial relationships between planter and comissário were sufficient before the expansion of the coffee sector began in earnest after 1870. In fact, the motives behind the Banco do Brasil’s appearance in Sa˜o Paulo had less to do with the Sa˜o Paulo economy than with the requirements of the Rio de Janeiro-based bank itself. An article appearing in the Correio Paulistano on its founding date explained that the entrance of the Rio-based bank into the Sa˜o Paulo market was a defensive strategy.58 The Banco do Brasil in Rio was the main bank of issue in the country at this time, meaning that its banknotes were issued under the authorization of the imperial government to serve as legal tender, used primarily for payments made to public offices.59 The banknotes, however, were

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not being accepted at face value in the province of Sa˜o Paulo because they were only redeemable at their source in Rio, which created high transaction costs and undermined their value in the provinces.60 The Sa˜o Paulo affiliate of the Banco do Brasil (Caixa Filial de Sa˜o Paulo) was founded as a solution to the discounting problem. It was allowed to issue its own notes, which were fully and freely convertible into the notes of the main bank. The Sa˜o Paulo affiliate, then, essentially functioned as a redemption station for the Rio notes.61 The provincial notes, in turn, were granted the full faith of the central government. Like those of the Rio bank, the Sa˜o Paulo notes were to be received as currency at all public offices in the province.62 In this series of operations the Rio bank not only guaranteed acceptance of its own notes at face value, but it gave the province of Sa˜o Paulo its first standardized, circulating means of payment. The local affiliate of the Banco do Brasil, in addition to providing liquidity to the Sa˜o Paulo economy, gave the region its first real bank. Even though the Banco do Brasil was Rio-based, its provincial affiliates were almost autonomous.63 They had their own statutes and their own boards of directors, which afforded these branches fairly broad control over their direction and development. In the case of the Sa˜o Paulo affiliate, its board members and shareholders were initially closely tied to the Prados, and its clientele was largely determined by its connections to this clan. Immediate members of the Prado family owned 25 percent of the bank’s stock, while related family members held another 25 percent. This led to early lending patterns that were restricted to the credit needs of the clan.64 In Darrell Levi’s study on the Prado clan and their involvement in the Bank of Brasil he notes that the parentela, or extended kin group, held nearly half the bank’s stock. This, he argues, directly influenced their banking activities. “When the directors would meet, one would say to another: ‘You, Baron Such-andso, do you need money?’ And Baron Such-and-so would always respond: ‘No.’ The directors would close the meeting without deciding anything further, because they did not lend money to outsiders.” 65 While the Banco do Brasil did not likely envision its affiliate’s purpose as serving one clan, the autonomy that this represented was probably inevitable. The lack of physical infrastructure in the middle of the nineteenth century made communications slow and daily oversight by the central office impossible. This distance between the Rio de Janeiro banks and their Sa˜o Paulo counterparts allowed the Sa˜o Paulo banks to reflect the province’s interests, which, as we will see, were increasingly characterized by the diversification of investments of the wealth of the planter clans.66 While Brazilian historiography has tended to view the clan and its pro-

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vincial isolation as illustrative of a shallow and backward capital market, research on a similar case in the United States suggests that such behavior is in fact a powerful strategy to diversify the economy.67 As we saw in Chapter 1, bankers in New England routinely established banks by selling equity to the members of their community and then used this capital to finance their own business interests. This insider lending, rather than evidence of a backward or undeveloped capital market, turned out to be a very good strategy because it gave bankers access to information that rendered less risky the business of lending. Rather than being an impediment to economic development, insider lending in the New England case was an effective means to diversify into new and unproven fields by linking access to capital with access to information. The Banco do Brasil and its Prado clan connections appears to follow this very model. No other publicly owned banks operated in Sa˜o Paulo for another fifteen years, but several small private banking houses opened in this climate of early agricultural expansion. Two of these were financial branches of import/ export firms with ties to the coffee planter class. The Casa Bancária Souza Queiroz e Vergueiro, formed in 1856 just months after the Banco do Brasil, belonged to two important coffee families, one headed by the Imperial Senator Francisco Antônio de Souza Queiroz and the other by Nicolau Vergueiro, the planter who brought immigrant labor to the coffee plantations in the 1860s. The Banco Gavia˜o Ribeiro e Gavia˜o similarly was tied to a coffee exporting house. The third, Casa Bancária Teodoro Reichert, was founded by a medical doctor, Dr. Teodoro Reichert. Dr. Reichert probably began by lending his profits from his medical practice and gradually built up an established bank. Announcements of both his financial services and medical services appeared in Sa˜o Paulo newspapers. These private banking houses comprised more than half of all financial establishments for two decades, transitional establishments in a transitional era from personal finances to formal financial intermediation. The arrival of a second joint-stock bank, the English Bank of Rio de Janeiro, Ltd., signaled the beginning of a phase of institutional expansion of financial services in Sa˜o Paulo. The English Bank was founded in 1870 in the port city of Santos, the growing center of international trade fueled by rising coffee exports. Indeed, it was during the 1870s that Sa˜o Paulo began to overtake Rio de Janeiro as Brazil’s leading coffee producer. Like the Banco do Brasil, the English Bank was an affiliate of a Rio-based bank.68 The English Bank was authorized by law to perform strictly commercial banking operations, which included brokerage for its own account or for its clients’ accounts, the purchase and sale of foreign exchange, the extension of

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merchant credit backed by collateral or through commercial paper, and the acceptance of deposits.69 Clearly, this bank was meant to act as intermediary for the import/export trade that, for most of the nineteenth century, was dominated by the British.70 The founding of this affiliate in Santos came just three years after the construction of the first railroad in the province, linking the port of Santos with the Paulista West via the city of Jundiaí, and reflected the increasing merchant trade through that port. The third joint-stock bank founded in the province of Sa˜o Paulo was also situated in the port city of Santos. The Banco Mercantil de Santos, or Santos Mercantile Bank, was founded in 1872. Like the English Bank, the founding of this bank attested to the rising commercial importance of Sa˜o Paulo’s port city. Unlike the English Bank and the Banco do Brasil, however, this was the first bank formed in Sa˜o Paulo that was not subordinate to or affiliated with a Rio de Janeiro bank. Its statutes declared that the “Banco Mercantil de Santos has as its objective to promote progress and increase commerce in the province of Sa˜o Paulo.” 71 It was to do so, via its services of capital and credit, by “offering and guaranteeing to companies, corporations, public and private establishments, its service and economic labor of collecting, guarding and investing their assets; . . . and by serving as intermediary for commercial transactions of [Sa˜o Paulo] with the Rio de Janeiro market.” 72 Sa˜o Paulo had its first modern bank, formed by the sale of equity to the public, financed through depositors, and engaged in short-term credit creation.

Strains on the Financial Sector The overwhelming predominance of short-term credit in the first decades of formal banking reflected the trade-oriented nature of the economy. The imbalance between the seasonal supply of cash from coffee sales and the constant demand for productive inputs meant that planters were heavily dependent on short-term credit mechanisms to smooth out their annual cash flow.73 That the coffee producers’ cash flow needs had such a profound effect on the economy’s credit markets was precisely because the coffee trade was such a significant portion of the economy. The uncertainty of production levels from year to year reinforced the short-term nature of bank credit. Drought, frost, insects and other natural enemies of coffee meant that from a banker’s point of view, long-term mortgage instruments were highly risky.74 Rather than assume that risk, then, banks avoided long-term loans to expand production and concentrated on short-term loans to facilitate trade. From the planters’ perspective, there was no question that the lack of

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long-term agricultural credit posed a problem, as evidenced by the number of articles in contemporary journals. An 1858 article reprinted in the Correio Paulistano from a Rio paper deplored the sad state of rural credit and the burden it put on planters. The article stated that the lack of a land bank meant that planters were forced to live in strict dependency on commercial credit, paying almost double the interest that they needed to pay.75 This high rate of interest, whether in the form of interest charges or discounted cash payments, was due to the commissions tacked on to the bills of exchange drawn by planters to raise cash every time the bills changed hands.76 While the Rio discount rate averaged between 6 and 10 percent from the 1850s to 1880s, for example, planters paid annual interest rates of from 8 to 14 percent. The Brazilian government sought to redress the lack of rural credit by creating a new type of bank. While the banking laws at mid-century had not limited banks to short-term credit activities, the absence of means to raise long-term funds to finance long-term credit made such credit scarce. To remedy this situation, the government passed a law in 1864 authorizing the formation of a bank specifically chartered to offer agricultural mortgages.77 These bancos hipotecários, or mortgage banks, could make loans on real property for up to half the assessed value of the property. These loans could be made for terms between 10 and 30 years at an interest rate not greater than 8 percent. The funds for these loans would come from mortgage-backed notes issued by the mortgage bank to the public, much like a bond issue. Notes would be offered for sale and would pay a set annual dividend. A portion would then be redeemed at face value over the same ten to thirty years by an annual lottery. In spite of a seemingly attractive formula, this legislation did not generate many takers in Brazil in general and none in Sa˜o Paulo. This lack of takers was most likely due in part to the restrictions placed on mortgage loans. The imperial government decreed that interest rates on long-term loans to planters be set at a maximum of 8 percent per year, but commercial lending to planters was earning capitalists and banks between 8 and 14 percent, as we saw above. Moreover, these high interest rates on loans to planters suggest that planters were seen as a risk by the financial community. It would be difficult to find investors to form a joint-stock bank whose primary business was making relatively low-interest loans of ten to thirty years to coffee planters. The coffee market was hot in the 1870s, but Brazilians had a threehundred-year experience with commodity production for export. This long experience was enough to demonstrate that this type of activity was plagued with uncertainty. The concerns about the riskiness of agriculture may have been un-

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founded on a macroeconomic level, for coffee turned out to be very profitable for the economy as a whole, but at the individual level there was always cause for concern. Even the wealthiest families and most important planters faced crises that cost them their plantations. One prominent Paulista coffee planter, José Vergueiro, had one of his plantations, its machinery, and current and future crops seized by the court in a dispute over a loan agreement with the London and Brazilian Bank.78 Vergueiro apparently defaulted on a loan on his Ibicaba plantation, prompting the bank to attempt to collect the assets held in collateral.79 Because Vergueiro refused to cede the assets, and continued to sell his crop himself, the bank took out a public announcement declaring illegal any transactions between Vergueiro and third parties. The court stepped in and appointed an administrator to handle the accounts of the plantation, effectively stripping Vergueiro of his assets. The riskiness of coffee plantations was exacerbated by the entrance of new planters in the sector during the planting boom of the 1880s and 1890s and by the expanding production frontier, which entered unproved lands to take advantage of coffee’s profitability. The favorable international conditions for coffee attracted new, smaller-scale planters to the sector. Many of these new planters were southern European immigrants who either took over spent lands from their landowner bosses or established their own smallscale coffee plantations.80 By 1920, almost 30 percent of all rural landowners in Sa˜o Paulo were laborers from Europe.81 In addition, many of these new planters settled in virgin regions of the province.82 The Araraquense region, which was the first new region to be opened up with the specific intent to expand coffee production capacity, had the highest concentration of foreign land ownership of any other zone in the state.83 The entry of new planters to the coffee sector and the opening up of new regions created information problems for those that lent money to agriculture. New entrants to coffee farming meant that the planter class was becoming more open, less interconnected, and less well known over time. The fact that many of these new planters were going into entirely untested regions compounded these information problems. No one knew whether the new lands would be as suited to coffee growing as the lands of the Paulista West. For example, whereas the classic coffee region had urgently lobbied for railroads in order to realize its known potential, the areas of newer settlement were opened up by railroads first, in order to attract settlers. Although at least two of the four regions of newer settlement proved to be as suitable to agricultural production as the classic region, their initial settlement and growth was uncertain. In addition to the information problems regarding the internal state of

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the coffee economy, information problems relating to the external influences on the coffee economy abounded. The most serious problems regarded the fundamental equation of supply and demand. Both sides of the equation were extremely difficult to forecast at the short term, and the inherent nature of coffee production made it impossible to react quickly to market conditions. The supply of coffee was hard to predict because it was hard to control. Coffee trees took four to six years to mature, reached their peak levels of production for ten to fifteen years, and then produced for an additional fifteen to twenty years, regardless of market conditions.84 Planters increased their productive capacity during good years, but the trees did not bear fruit until at least four years into the future. Therefore, the supply response to price might be completely wrong by the time the coffee came to market. Additionally, the crop yields varied from year to year according to climatological conditions. Perfect conditions could produce a bumper crop one year, but bumper crops exhausted the plants and led to several years of reduced yields while the plants recovered. Conversely, a freeze could destroy a year’s crop. The inability to respond quickly to changes in world prices, coupled with the inability to control growing conditions, made the supply of coffee very difficult to manipulate. The demand for coffee was even further out of the hands of the coffee planters of Sa˜o Paulo. The world demand had grown steadily over the nineteenth century with the rise of industrialized nations and their coffeedrinking labor forces, but this growth was not inevitable. During the first two decades of coffee expansion in Sa˜o Paulo the international economy experienced two strong contractions. The first, in 1864, virtually paralyzed the financial community of Rio de Janeiro and led to changes in the planter– comissário relationship that made agricultural credit more expensive to obtain.85 The second, from 1872 to 1885, was due to an economic downturn in the United States, the single largest consumer of Brazilian coffee. Coffee prices fell at an annual rate of 7.6 percent per year during this contraction.86 Exports rose somewhat to offset the decline in prices, but the prolonged crisis of Brazil’s largest coffee consumer reinforced the short-term riskiness of agricultural production. Finally, problems with the nature of property rights lent a measure of risk to agricultural lending. The land law of 1850 formalized legal titles, easing the transfer of property from one owner to another, but it did not resolve the problem of collateralization that plagued mortgage lending. Colonial protections guarded landowners against breaking up their property if doing so would undermine the value of the enterprise as a whole.87 This made foreclosure difficult and meant that banks had a hard time collecting on bad

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debts. According to Gail Triner, this impediment to agricultural lending survived through the imperial era and into the Republic, when “bank operating statutes typically simply prohibited agricultural credit.” 88 The uncertainty over the labor supply compounded the problem of collateralization, for land without labor was worthless.89 The 1850 land law sought to motivate the free poor to act as a reserve labor pool for the large landed estates by limiting their access to land, but it could do nothing about the demography of slavery. The end to the slave trade in 1850 ensured that the supply of slaves would dwindle even as coffee plantations were in an era of expansion. The internal slave trade put off the inevitable, but these slaves were expensive.90 Therefore, the value of the landed estate, predicated on access to labor, did not likely rise above the value of slaves until slavery was nearly certain to be abolished, making landowners unwilling to pay high prices for them.91 The value of the mortgaged asset, then, was soft. The uncertainties revolving around coffee production made lending to agriculture a risky venture. The overall profitability of coffee production was not so much in dispute as was the ability of a given planter to meet his debts in a given year. The inability to predict the level of world demand and the virtual impossibility to tailor production to that demand caused conditions on the market to fluctuate annually. It is no wonder, under these circumstances, that mortgage banking was not aggressively pursued by financial entrepreneurs even when the government sought to stimulate such credit activity through legislative measures. Bankers’ risk aversion was not limited to rural credit. Even urban and commercial customers were subject to close scrutiny. These banks were hardly open to the average man off the street for commercial or personal transactions. Anyone was welcome to deposit their funds in a bank of course, but in order to have one’s “paper” accepted by the bank for discounting one had to be well known. Advertised rates for discounted paper required that the paper have “two signatures well known in the marketplace.” 92 In other words, banks created liquidity by accepting and discounting all types of paper according to the regulations laid out in the Commercial Code, but they still wanted to know something of the origin of that paper. Because this paper tended to be tied to a commercial transaction, such as the delivery of coffee, it was only good when the coffee was actually delivered. Therefore, the formation of these early banks represented a rather timid, risk-averse entry to formal banking that retained the elements of information and reputation that bound the trust of personal arrangements into the more formal, and theoretically impersonal, setting of a bank. As late as the end of the 1870s there is evidence that these banks coexisted

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with a number of personal intermediaries. The 1873 Almanac of the Province of Sa˜o Paulo listed twenty-five capitalists, compared to fifteen in 1858, with far fewer connections among them. Whereas eleven of the fifteen capitalists of 1858 had kin or business ties, only eleven of twenty-five had such ties in 1873. Additionally, the 1870s sprouted a number of advertisements in the newspapers by anonymous individuals wishing to lend their surplus capital out at interest. One such advertisement read: “Money at interest: Lending 3:000$000 [approximately US$1,500] at interest of 1 percent per month with sufficient guarantee. This publisher will say who makes this offer.” 93 This advertisement and others like it show that there was both a surplus of capital to be invested and a demand for liquidity, neither of which was fully addressed by banks. The cautious transition from personal to institutional finance in Sa˜o Paulo accelerated in the 1880s, the decade that sat at the very heart of the coffee boom. The railroads built in the 1870s were now expanding their lines to open up new frontiers for production. Plantations spread, coffee exports grew, and planters thrived, all because of a seemingly insatiable world thirst for the coffee that Brazil grew. What is more, Sa˜o Paulo seemed to grow better coffee than the other coffee-growing provinces of Minas Gerais and Rio de Janeiro. Its soils were rich, its climate temperate, its rainfall perfect, and its port, now that the railroads were built, easily accessed. Sa˜o Paulo’s share in total Brazilian coffee production, which stood at 25 percent in 1875, had grown to 60 percent by 1890. The value of exports from the province of Sa˜o Paulo more than doubled from 1880 to 1889.94 This boom in coffee production demanded new infrastructure and services, and the commercial expansion in both port and capital cities was matched by an expansion in the banking sector. The coffee boom, which pushed the region to Brazil’s economic forefront and is credited with laying the foundation for Sa˜o Paulo’s industrialization, was contingent on attracting enough labor to tend the trees. The slave trade had ended thirty years before and signals were clear that slavery itself would soon be abolished.95 Thanks to a subsidized program, immigrants came in waves to work on the coffee plantations. Sa˜o Paulo’s coffee boom, then, generated a population boom as well. Tens of thousands of new immigrants arrived each year. Many moved from plantation to plantation, seeking better working conditions in this time of transition from slave to free labor. Some moved from the country to the city, seeking different opportunities. In the decade of the 1880s alone, more than 200,000 immigrants entered the province of Sa˜o Paulo.96 This huge influx of immigrants and their subsequent movement around

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the province and between economic sectors had a profound effect on the region’s development experience. First and foremost, planters required money to pay their workers on a large scale for the first time in Brazil’s history. The introduction of wage labor in the export economy, then, increased the need for liquidity. At the same time, the use of wage laborers eliminated the planters’ obligation to furnish the basic needs of their laborers, meaning workers now had to spend money on food, clothing, and other items. While the rural immigrant laborers were not conspicuous consumers, often choosing instead to remit their savings to their home countries, a sizable portion used their savings to purchase land and become agricultural producers themselves.97 Other immigrants moved to the city to take jobs in manufacturing and services. Their contribution to the monetization of the economy, then, was important. These wage-earning immigrants supplied a real market for the manufacturers of agricultural machinery, cloth, shoes, and foodstuffs, which provided the basis for domestic industrialization. We see the effects of this new demographic phenomenon in many types of statistics from the 1880s. The province’s population, for one, grew from 417,000 in 1854, to 837,000 in 1874, to 1.2 million in 1886. It would double again to 2.3 million by 1900.98 The urban population grew even faster. The city of Sa˜o Paulo, which was the largest urban settlement in the province, had grown very slowly throughout the nineteenth century, from a population of 15,000 in 1855 to just 23,000 in 1872. Immigration and other sources of growth associated with the coffee boom, however, caused the metropolitan population to triple to 72,000 by 1890 and triple again to 240,000 inhabitants by 1900.99 These growth rates by far outstripped the population growth experienced in the rest of the country. This population explosion produced an important secondary effect of the expansion of the coffee trade and the introduction of wage labor: the growth of internal commerce. Research by eminent Brazilian economic historians on the economy of Sa˜o Paulo province highlights this growth. Using the provincial almanacs as their source, Flávio Saes and Zélia Cardoso de Mello found, for example, that the number of industrial establishments in the capital city of Sa˜o Paulo grew from 31 in 1873, to 81 in 1884, to 143 in 1890.100 Not only did the number grow, but the type of these establishments diversified as well, from eighteen types of industry in 1873 to forty-five different types in 1890. This is one small indicator of what they call “the commercial and service vitality linked to a growing population.” 101 This vitality, they continue, “is also indicated by the presence of activities linked to filling the alimentary and entertainment needs” of this population. Retail establishments grew in number and became more specialized; more artisans

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skilled in wood and metal working practiced their craft than at mid-century; two shops promised to install electric doorbells; three billiards factories opened up; artists and sculptors, hatmakers and printers, doctors, dentists, and botanists joined the urban milieu. The interior cities remained far more closely tied to the agricultural economy than did the capital city, but even in these smaller cities the commercial effects of a vibrant economy were evident by 1890. Most had some manufactories producing clothing, foodstuffs, beer or distilled spirits, soap, and candles. Most had a complement of doctors, lawyers, engineers, and educators. All had retail shops, barber shops, hotels, pharmacies, bakeries, and butchers. These activities were in addition to the primary motor of the economy: the growth, processing, sacking, and sale of coffee.

Institutional Expansion in the 1880s It was in this context of rapid expansion in both the export-oriented and domestic economies that Sa˜o Paulo’s formal bank sector entered its own expansionary phase. Sa˜o Paulo banks, which had numbered just three prior to the 1880s, and which were engaged in strictly commercial banking activities, grew in number, breadth, and depth. Seven new banks were founded in the 1880s, significantly easing the liquidity of the province as well as increasing the economy’s credit capacity. These banks diversified their activities. The commercial banks offered new types of services, and a mortgage bank offering long-term credit was formed for the first time. The new banks included four domestic and three foreign banks (see Table 2.1). The domestic banks included three commercial banks and one mortgage bank, all headquartered in the city of Sa˜o Paulo. The Banco Comercial (1886), the Banco da Lavoura (1886), and the Banco Popular (1888) were all commercial banks, while the fourth, the Banco de Crédito Real (1882), was a mortgage bank. Of the three foreign banks, two were new to Sa˜o Paulo: the London and Brazilian Bank, founded in Santos (1881),102 and the Brasilianische Bank für Deutschland, founded in Sa˜o Paulo (1888). The third foreign bank was not actually a new bank but rather a Sa˜o Paulo City branch of the English Bank of Rio de Janeiro, which had maintained a branch in the port city of Santos since 1870. By way of comparison, just three private banking houses operated in Sa˜o Paulo in the 1880s. These were the Casa Bancária Gavia˜o Ribeiro e Gavia˜o, from the 1870s, the Casa Bancária Teodoro Reichert, and a new house, the Casa Bancária da Província de Sa˜o Paulo. This last private house was founded by planters and would incorporate in 1890 to become Sa˜o Paulo’s

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chapter 2 Ta b l e 2.1 São Paulo Public Banking Sector to 1889 by Ownership, Type, Location

Bank Banco do Brasil English Bank of Rio de Janeiro Banco Mercantil de Santos London and Brazilian Bank Banco de Crédito Real English Bank of Rio de Janeiro Banco Comercial Banco da Lavoura Banco Popular Brasilianische Bank für Deutschland

Founded

Ownership

Type

Headquarters

1856 1870 1872 1881 1882 1883 1886 1886 1888

domestic foreign domestic foreign domestic foreign domestic domestic domestic

commercial commercial commercial commercial mortgage commercial commercial commercial commercial

São Paulo Santos Santos Santos São Paulo São Paulo São Paulo São Paulo São Paulo

1888

foreign

commercial

São Paulo

s o u r c e s : Bank balance sheets, Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Numbers 2138: 1865 –1884; 2139: 1885 –1887; 2140: 1888 –1889; and Correio Paulistano, various years.

largest public bank by 1920. Clearly, formal financial institutions were replacing the personalistic arrangements of the past. With this expansion, formal institutions outnumbered private banking houses for the first time. One of the most striking characteristics of the bank sector during the expansion of the 1880s, in fact, at all times under the Empire, was its predominately domestic nature. No matter the decade or the number of banks in operation, domestic banks clearly controlled the Paulista banking sector throughout this period (see Tables 2.1 and 2.2). Once the Banco do Brasil was joined by the Banco Mercantil de Santos and the English Bank of Rio in the early 1870s, foreign banking came to hold a steady 13 –16 percent of the banking sector’s value throughout the 1870s. Foreign participation in the Paulista banking sector rose to about 20 percent of total value in the 1880s, when two more foreign banks were formed, the London and Brazilian Bank in 1881 and the Sa˜o Paulo City branch of the English Bank in 1886. Even during a brief 1888 spike in the relative value of foreign banks to domestic banks, their share never rose above 26 percent. This strong domestic character stands contrary to most historical analyses of the economic development that took place in Brazil during this era. Historians have long held that the modernizing elements in the Brazilian economy were foreign-owned or foreign-controlled. The historical misconception regarding foreign control of Brazilian development is the result of twentieth-century theories regarding the historically unequal exchange between industrialized and developing nations, which hypothesized that the foreign sector would limit or control the growth of the economy.103 Applied to the Brazilian case, historians focused on the apparent relationship be-

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Ta b l e 2.2 Market Share in the São Paulo Banking Sector, 1873 –1889 (percent of total asset value)

Domestic commercial banks Domestic mortgage bank Foreign commercial banks

1873

1880

1883

1886

1888

1889

86.2

86.2

13.8

13.8

54.8 27.6 17.6

53.1 27.8 19.2

47.7 25.7 26.6

49.5 31.1 19.4

s o u r c e s : Bank balance sheets, Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Numbers 2138: 1865 –1884; 2139: 1885 –1887; 2140: 1888 –1889; and Correio Paulistano, various years. n o t e : Commercial banks are Banco do Brasil and Banco Mercantil de Santos (1873 – 89), Banco Comercial and Banco da Lavoura (1886 – 89), and Banco Popular (1888 – 89). Domestic mortgage bank is Banco de Crédito Real. Foreign banks are English Bank of Rio at Santos (1873 – 89) and São Paulo (1886 – 89), and the London and Brazilian Bank (1883 – 89).

tween foreign capital and economic development, identified yet never systematically analyzed, that came out of the great importance of foreign trade in the domestic economy. This interpretation that Brazilian economic development was dominated by foreign capital is exemplified in the work of two scholars: Andre Gunder Frank and Richard Graham.104 Frank argued that development was either circumscribed by explicitly articulated foreign interests or by direct foreign ownership of the modernizing sectors of the Brazilian economy. This theory was echoed by Richard Graham, who postulated that British capital and technology were responsible for the modernization of the Brazilian economy. While these arguments are thirty-five years old, their influence is found in more recent publications. A 1993 United Nations study on the modern demographics of Sa˜o Paulo, for example, attributes virtually all of the city’s development to foreign sources. The analysis presented here, and in Chapter 4, clearly shows that this interpretation is incorrect. The dynamism of the financial sector of Sa˜o Paulo’s economy rested solidly with domestic institutions. Indeed, most banks in Sa˜o Paulo were dedicated to commercial banking, a business activity which catered directly to the import- and export-related enterprises. This emphasis on commercial banking was not due to foreign control of capital, however, but was the result of Brazilian government legislation. Bank practices in Sa˜o Paulo, as in all of Brazil, were regulated by the series of laws emanating from the Commercial Code of 1850, which itself was geared toward the requirements of the government’s greatest sources of revenue—foreign trade. In addition to being dominated by domestic capital, the Sa˜o Paulo banking sector was funded by local capital (see Table 2.3). Its first bank, the Sa˜o

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chapter 2 Ta b l e 2.3 Sources of Bank Funds, 1873 –1889 (millions of nominal mil-réis)

Equity: Commercial Mortgage Deposits: Commercial Foreign Total Equity %age change Total Deposits %age change

1873

1880

1884

1887

1889

1.3

1.8

1.8 1.7

3.3 2.0

11.4 6.7

3.5 0.7 1.3

6.4 1.1 1.8 38% 7.5 79%

8.6 5.8 3.5 94% 14.4 92%

14.7 6.2 5.3 51% 20.9 45%

18.8 11.7 18.1 241% 30.5 46%

4.2

s o u r c e s : Bank balance sheets, Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Numbers 2138: 1865 –1884; 2139: 1885 –1887; 2140: 1888 –1889; and Correio Paulistano, various years.

Paulo affiliate of the Banco do Brasil, was nominally a Rio de Janeiro bank, but its principal shareholders were Paulista planters. It was their fortunes that provided the equity invested in this bank, and it was they who assumed the risk in a regulatory environment that held investors supremely liable for a corporation’s debts. The domestic banks that formed in the 1880s, too, were funded by Paulista investors who anted up millions of dollars for equity stakes in these banking enterprises. And it was domestic depositors who funded their operations. Both equity investment and deposit accounts in Sa˜o Paulo banks grew by leaps and bounds during the 1880s, facilitating the expansion of short-term credit to the region’s economy. The new banks represented both expansion of the sector and new dimensions in banking. While almost all of these banks remained firmly dedicated to commercial lending, important institutional evolution took place under the pressure of a growing monetary economy and a diversifying economic base. In particular, we can identify three marked changes in Sa˜o Paulo’s banking practices in the 1880s: the banks diversified the types of short-term credit mechanisms they utilized; they increasingly acted in a brokerage and investment capacity; and the sector offered long-term credit for the first time. These changes were in response to demands from the expanding rural and urban sectors for more credit and faster service, and represented the beginning of a shift away from the merchant-inspired banking practices that had dominated the financial sector. Short-term credit remained the largest single application of banking funds throughout the 1880s, but it was increasingly comprised of guaranteed lines of credit and decreasingly characterized by discounted bills of exchange

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Ta b l e 2.4 Earning Assets of São Paulo Domestic Commercial Banks, 1877–1889 (percent of total earning assets)

Discounted bills Guaranteed lines of credit Stocks and bonds Total applications

1877

1880

1885

1889

87.3 12.7

43.3 54.1 2.6 100.0

28.0 63.2 8.8 100.0

24.3 63.6 12.2 100.0

100.0

s o u r c e s : Bank balance sheets, Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Numbers 2138: 1865 –1884; 2139: 1885 –1887; 2140: 1888 –1889; and Correio Paulistano, various years. n o t e : Commercial banks for 1877– 85 are Banco do Brasil and Banco Mercantil de Santos, and for 1889 are Banco do Brasil, Banco Mercantil de Santos, Banco Comercial, Banco da Lavoura, and Banco Popular. These are all the domestically owned banks operating in São Paulo for their respective time periods. Earning assets are defined as bank assets invested in interest-earning applications.

(see Table 2.4). This shift was significant for the Sa˜o Paulo economy. It meant that banks reduced the volume of business that was directly tied to another transaction through discounts, which placed limits on the amount of credit the banks could provide to their customers and increased their business in revolving accounts.105 These accounts, secured by collateral placed with the bank, allowed bank clients to receive funds against their collateral at any time.106 This dramatically improved the availability of credit on short notice, which provided more seamless liquidity to the economy and suggests that banks were being used less in the capacity of merchant intermediaries and more as modern financial institutions. This shift from discounting paper with two well-known signatures to lines of credit secured by collateral represented an important diversification away from formalized versions of traditional, personal arrangements. The significance of this move was that credit in the 1880s could more easily be extended to unknown persons. Where a person used to need a good business reputation to have access to a bank’s discounting services, he or she now just needed collateral of some readily identifiable value. This of course meant that one still had to have some wealth, with a title to some land or some gems or slaves or precious metals, to get a line of credit, but the client could be a reputation-less nouveau riche. This would be a critical feature in the business boom that was waiting on the other side of 1890 with the declaration of the Republic. The era of baron banking was coming to an end. Just as discounted bills declined in importance relative to loans in the 1880s, so did short-term credit shift slightly off center stage. This shift was a direct result of increased investment by banking institutions in the shares of other joint-stock companies and was most notable after 1885. The participation of banks in equity investment in what was still an informal stock

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market signals the increasing importance of urban economic activity and infrastructure investment in the Sa˜o Paulo economy, changes that accompanied the rapid growth in coffee production, the opening up of new regions by railroad for planting, and the pressure on the urban areas for new services to accompany the rural boom.107 Investment in company stock, or “direct” investment, is an important development-oriented activity because it represents the interest by and support of formal institutions in the structural diversification of the economy. While stocks never captured a majority of bank investments during this period, they grew in importance at several domestic banks, especially after 1885.108 The Banco Mercantil de Santos had the longest history of direct investments. In its first decade of operation it dedicated an average 6.7 percent of earning assets to investments in bonds.109 It generally invested strictly in Brazilian government bonds issued on the London market, but it made a brief exception in 1880 when it put one-third of its investment allowance in Sorocabana Railway bonds. In 1889, fully 15 percent of its earning assets were in government bonds. The Banco do Brasil first saw its investment portfolio inch away from 100 percent short-term credit (discounts and guaranteed lines of credit) in 1885, when 5.5 percent of its earning assets were invested in company stocks.110 This proportion jumped to 19 percent by 1887 and doubled again by 1889, capturing 38 percent of its earning assets. The new banks founded in the mid-1880s (Banco Comercial, Banco Lavoura, and Banco Popular) likewise dedicated between 20 percent and 30 percent of their earning assets to stock and bond investments. The Banco Comercial placed its investment funds in both company stocks and mortgage-backed notes. The other two did not specify the destination of their investment funds.111 Still, it is clear that banks were finding investment in stocks and bonds to be increasingly attractive. The rapid growth and diversification of domestic enterprise had caught the bankers’ attention. The third major change to take place in the Sa˜o Paulo banking sector during the transitional 1880s was the new availability of credit to agriculture. One of the three new commercial banks, the Banco da Lavoura offered loans to agriculturalists, secured by pending harvests, warehoused crops, and animals and machinery.112 These loans were a twist on the usual lines of bank credit, which were typically secured by gems, silver and gold, or stocks and bonds. By accepting future harvests, crops, and farm implements as collateral, this bank was doing what the coffee middlemen had always done: it offered planters a means of turning their own brand of valuables into cash. These loans, sob penhor agrícola, would show up on the balance sheets of a

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growing number of banks over the following three decades. While not longterm mortgage loans, they were meant to offer planters a new source of credit during the transition from slave to free labor.113 Providing long-term loans to agriculture was the vocation of the Banco de Crédito Real, the first investment-oriented financial institution in Sa˜o Paulo’s history.114 The Banco de Crédito Real de Sa˜o Paulo was an instant, bona fide, and long overdue boost to agricultural credit. It represented an attempt to provide planters with the longer-term credit necessary for the physical expansion of production. The impending shift to wage labor and the drive to capitalize quickly on booming demand had coffee planters calling for new types of credit to meet these new cash needs. The provincial government answered with a provincial law specifically geared to offer profit guarantees to any bank that would act as a mortgage lender for the province of Sa˜o Paulo.115 As we saw earlier, a similar law passed by the imperial government in 1864 had failed to generate any takers. No financiers were interested in forming a bank that risked its capital at longer terms for lower interest rates. This reluctance was due in part to the difficulties in foreclosing on property and the uncertainties about the labor supply. Foreclosure provisions underwent no change in the intervening period, but the labor market firmed up considerably in the 1880s as a result of the success of immigration-promotion programs. The added profit guarantees, through which the province of Sa˜o Paulo paid investors a guaranteed 6 percent return on their investment, ameliorated the perceived riskiness of forming a mortgage bank. The investors obtained a decent return whether or not agricultural credit panned out. Within a year of the 1881 provincial law, the Banco de Crédito Real was formed. The way in which the Banco de Crédito Real was promoted to the public exhibited a curious mix between old and new forms of financial intermediation. For months preceding the bank’s opening, noted capitalists and brokers were advertising their services to coffee planters to help them obtain the necessary papers and appraisals to approach the bank. On 1 August 1882, Messrs. Sá and Andrade announced that they would take on the duty of “raising loans for agriculture,” presumably acting as city intermediaries between planters and the bankers, once the Banco de Crédito Real began operating.116 A similar announcement appeared on 2 September 1882, placed by the noted lawyer and prominent holder of bank stocks, Dr. Paulo Egydio.117 On 6 October 1882 the Sa˜o Paulo notable citizen, and later statesman, Emílio Rangel Pestana announced that he too would raise loans from the Banco de Crédito Real for both agriculture and urban buildings by supplying the planters with

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all the support needed for their proposals, including engineers to survey their lands.118 The caliber of the brokers placing their names forward was a strong endorsement to this new institution but indicates as well that interactions with formal financial institutions were uncommon among rural producers late into the nineteenth century. This was the first experience with institutional credit in the history of Sa˜o Paulo’s agricultural sector and allowed for the brief emergence of a new sort of personal intermediation, this time between planter and bank, in the vein of old merchant practices. The Banco de Crédito Real opened its doors for business on 2 December 1882 and spent the remainder of the decade burying old concerns that mortgage banking would prove too risky or too unattractive to be aggressively pursued. In its first year of operation it lent over US$1.3 million, $1.2 million going directly to agriculture.119 Because of the Banco de Crédito Real’s activities, long-term credit to agriculture rose from 13 percent of total bank credit in 1883, the first full year of the Banco de Crédito Real’s existence, to 31 percent by the end of 1889. The implications of this evolution of the banking sector under the Empire for the domestic economy of Sa˜o Paulo are surprising. Planter families requiring long-term credit to expand their coffee production were investing in commercial banking institutions dedicated to short-term credit. It is possible that planters simply exchanged the long-standing personal credit terms for the new institutional credit terms, choosing to operate within the traditional cycle of credit described earlier. It is more likely, however, that planter/bankers stuck to traditional banking practices because they above all understood the riskiness of agricultural endeavors. The poor quality of information in a rapidly shifting productive environment, which was both undergoing record expansion and changing labor regimes, made it very difficult to judge the creditworthiness of agricultural projects. Planters, then, viewed banking not so much as an innovative sector that could provide for credit needs differently than did the factors, but as an alternative and secure investment for their surplus capital.120 Significant advances toward formal financial intermediation were made in Sa˜o Paulo under the Empire. The personal financial arrangements between factors and planters that Sa˜o Paulo had imported from Rio de Janeiro became strained by rapid growth in coffee production and a dramatic shift in the labor force. By the early 1880s, all these forces underscored the shift from personal to increasingly institutional financial arrangements to the benefit of the Sa˜o Paulo economy. First, in spite of a regulatory environment that made investment in joint-stock companies exceedingly risky, sev-

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eral new joint-stock banks formed. This is a clear indication that the demand for banking services was great enough to promise investors good returns on their money.121 Second, all banks moved from discounting to lending via secured lines of credit. This meant that access to credit was secured by a more general measure of wealth than by a specific commercial transaction. As a result, access to credit opened up to a sizeable portion of the population not engaged in international trade. Third, a government-guaranteed mortgage bank was founded to provide long-term loans for rural and urban property development. By the end of the Empire in 1889, Sa˜o Paulo had developed a small institutional financial sector better able to service this booming economy.

Chapter 3

Brokers and Business Finance under the Empire

The rapid pace of economic expansion in the nineteenth century placed personal financial arrangements under great strain. Financial entrepreneurs were limited in the supply of funds they could muster, and commercial, industrial, and agricultural entrepreneurs were limited in their ability to borrow funds by the need to know a financier. Banks were an important institutional response to this strain, as we have seen. A second response was the creation of joint-stock companies and the rise of a market for their stocks and bonds. Businesses that were too big to be financed through kin or community groups or through a personal financier could not be formed before the advent of the joint-stock format. Nor could businesses in new or unproved fields easily attract capital, finding themselves either limited in size or unable to form altogether. The creation of the joint-stock format for new businesses, and the advent of a market for stocks and bonds, eased a significant bottleneck in the ability of the Sa˜o Paulo economy to grow and diversify. Joint-stock companies sell shares to the public to raise their financial capital, just as modern-day corporations do via the NASDAQ and the New York Stock Exchange. Because investors do not usually know the entrepreneurs at the head of the business, and because shareholding is dispersed and often spread over hundreds or thousands of individual and institutional investors, the creation of the joint-stock format and a market for corporate stocks and bonds constitutes an important formal financial intermediary. 56

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Through this format, which is to say, through the market that trades in its shares, large sums of money can be mobilized to fund business beyond the capabilities of kin or community groups. Additionally, entrepreneurs forming newer or riskier businesses can use this format to bypass traditionally conservative intermediaries, such as banks, and appeal directly to the investing public for funds. This chapter uses government regulatory legislation, business charters, corporate financial documents and contemporary observations to examine the emergence of the joint-stock company and the market for its stocks and bonds in Sa˜o Paulo under the Empire.

The Joint-Stock Corporation in Theory and History When businesses formed before the advent of formal financial institutions, such as banks that might extend them a loan or a stock and bond market that could sell their shares to the investing public, they had several options to raise capital. They might be financed through the founder’s personal savings; they might draw on the savings of the founder’s extended family or kin group; they could be financed by an investor or a merchant, sometimes one and the same, with whom they have had past dealings; or they could draw on community resources. These options were all in evidence throughout history in the pre-industrial era. A wife’s dowry, for example, provided the start-up capital for many businesses in colonial Mexico.1 Entrepreneurs in New England founded banks to gather together a community’s savings in order to finance their own family businesses.2 These options sufficed for centuries because the scale of most businesses was not large, meaning businesses were able to use resources efficiently at a reasonably small size. The small scale was a result of the fact that prior to the Industrial Revolution all work effort was performed by humans, draft animals, wind, and water, and was therefore limited by the physical capabilities of these resources. With the advent of the Industrial Revolution, however, advances in technology that replaced machine effort for human, animal, and natural effort dramatically increased the scale of production, hence, the size of businesses. New technologies required more capital, both to acquire the machines and expand the capacity of the business. Over time, the ability of a business to rely on personal, kin, merchant, or community finance to meet these greater capital requirements eroded for many types of companies. This relationship between mechanization, scale, and capital requirements evolved slowly in the first industrial nation, England. Because England industrialized first, it did so in the near complete absence of competition. In the first half-century of industrialization, in particular, from roughly 1750

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to 1800, advances came as a steady stream of small and medium gains in technological knowledge and its application to the production process. Established businesses were able to adopt these inventions (new technologies) and innovations (new ways of performing existing tasks) as they arose, using the accumulated profits of the company to pay for them. This gradual process meant that capital requirements were generally small and simply met. The absence of tension between the demand for and supply of capital meant that responses such as the emergence of formal financial institutions were not urgent nor even necessary during much of the early industrialization process.3 Follower countries historically did not have the luxury of gradualism when it came to economic diversification and development. By the nineteenth century, technologies grew in sophistication and productive capability, increasing the scale of mechanized businesses as well as the capital requirements of the firm.4 Competition from early industrializers like England meant that the transition from agriculture to industry, if this was indeed the goal, had to take place quickly. Again, this meant increased capital requirements for business development. The follower countries, then, faced the pressure of industrializing and competing all at the same time. In order to acquire the technology and build both industry and the supporting physical and service infrastructure businesses, they required far greater capital mobilization than was possible through traditional kin or community-based finance. One solution to this problem was to use the joint-stock format for new business formation. The joint-stock company, which sells shares to investors in exchange for a portion of the profits (dividends), introduced the potential to break through the size limitations that personal finance placed on entrepreneurship and business formation. It allowed entrepreneurs to take an idea and a business plan to the market and ask an unrelated pool of savers, many of them small savers purchasing a handful of shares, to invest in a company that might be too big or too risky to raise capital through other means. This was an innovation that freed firms, most all of which were previously financed through personal savings or kin or community finance, from the size constraints of a limited capital pool. For a joint-stock company to form, two elements are typically necessary: an entrepreneur with an idea for a company attractive to investors, and some institutional framework within which that company’s stocks can be bought and sold. The entrepreneur draws up the business plan, a budget, financial statements, and statutes by which the firm will operate to determine the capital requirements of the enterprise and to inform the investor of the plans and potential of the company. The sum total of capital required by the com-

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pany is then divided into shares of equal value, and generally at a value accessible to the small saver, and offered to the public. This public, in turn, is willing to allow the entrepreneur to use their savings because the stock offerings come with a promise to pay investors for the use of their capital. Because of this agreement, the joint-stock company was able to access a potentially limitless pool of funds to finance its business enterprise.5 While the joint-stock company format offered entrepreneurs a less personal means of raising capital for their businesses, the format itself did not automatically nor unquestioningly attract takers. Investors have long been loath to invest in shares of new companies without some personal connection, special knowledge, or explicit guarantee of protection that their investment will be put to productive use.6 The risk investors in new firms take is that a controlling interest block might divert resources to their own, rather than the firm’s, gain. Because of investor trepidation, early joint-stock firms tended to be closely held. Ownership typically broadened only after a corporation had grown and established a record of sound management and steady profitability. The rise of influential intermediaries helped broaden the market for stocks and bonds. The reputation of intermediaries like J. P. Morgan helped raise capital for business ventures in the United States in the early twentieth century, in part by purchasing some portion of the stock themselves, signaling their faith in the corporation and its management, and in part by providing a secondary market for stock trades, providing investors the mechanism for liquidating their investment should they so choose.7 Specialization on the part of brokers and investment banks likewise provided a level of assurance to investors that intermediaries had good knowledge of the sector or corporation whose stocks they traded.8 Research analysts at major Wall Street investment banks continue to provide a window into corporate management, investigating businesses and recommending stocks based on the economic outlook and a company’s fundamentals. Government profit guarantees or grants of monopolies likewise drew investors toward company stocks, secure in the knowledge they would earn some baseline return no matter the intentions of the firm’s managers. Finally, business regulatory law that spells out investor claims in the event of fraud or bankruptcy can act as a form of guarantee. Any of these forms of guarantee, from personal to institutional, tended to bolster acceptance of the joint-stock format and therefore its usefulness as a source of business finance. Stock and bond exchanges, also called securities exchanges, are the formal financial intermediaries that perform this important role of mobilizing capital resources and allocating them to the entrepreneurs.9 They do this by organizing a market for the purchase and sale of the stocks and bonds offered

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by the joint-stock company. Information on a new or expanding company is made available by brokers to the public, and potential investors decide whether or not the stock in this company is attractive to them. If it is, they will make their savings available to these businesses by purchasing these stocks and bonds, and in that way contribute to the growth and development of the economy. The company gets its funding, and the investors get a share of the profits in the form of dividends and stock price appreciation. The stock exchange is not different from banks, in the sense that both pool the resources of a large group of individuals for application in a business enterprise, but there is a fundamental difference between the two. Banks have to balance the term-length of their funding against the types of loans they make. If the bulk of their funding is in deposits that might be withdrawn by the depositor at a moment’s notice, for example, the bank will typically make only short-term loans. Stock and bond exchanges, on the other hand, provide long-term funding regardless of the investment time horizon of the stockholder. The sale of stock provides a corporation with funds that never have to be repaid, while the exchange allows today’s stockholder to sell his or her equity in a company to another individual tomorrow. This mechanism ensures business funding while providing flexibility to the individual investor. Therefore, an equity investment can behave like a demand deposit account and still fund long-term investments. In this way, as one scholar put it, “the market performs an act of magic.” 10 An important function of the exchange is that it allows a broad range of enterprises to obtain funding, regardless of their inherent riskiness. Because the stock market provides the institutional mechanism for free entry to and exit from the market, investors themselves make the decisions on the soundness of the investment and their individual willingness to gamble. Risktaking investors may choose to invest in a certain company deemed risky by other institutions because of the promising nature of the company’s product. Conservative investors may choose a more secure investment, such as a government bond, which is among the most likely to maintain its value and pay a steady return.11 The functions of the market, to raise capital for entrepreneurs and facilitate its investment in a broad range of business ventures, work because the market is ruled by codes and etiquette that protect the investor. Most of these codes and rules in most economies evolved during the period preceding a formal exchange, and were meant to regulate and standardize the trading activities of brokers. Typically, regulations established when, where, and by whom securities could trade, how these trades would be recorded to ensure the owner held secure title in the company, and how information re-

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garding trades would be disseminated.12 These regulations, in turn, were applied to the exchange to protect the securities market from speculation or collusion. In time, they were incorporated into the statutes of the formal securities exchanges and served to create a foundation of trust for the investing public, critical for attracting and keeping investors. The joint-stock company was initially used in the seventeenth century to finance the big overseas exploration ventures, such as the Dutch East India, British East India, Hudson’s Bay, Royal African, and infamous South Sea Companies.13 The format was particularly well suited to these sorts of companies because it could raise substantial capital while spreading risk among investors. Initially, some of these first joint-stock companies tended to have a relatively small capitalization and a few, closely knit shareholders. Within just a few years, however, others formed that were bigger, more widely held, and fairly actively traded. One example of this was the Bank of England, which raised its initial capital of more than one million pounds sterling from just 1,500 investors when it was founded in 1694. By 1704, the Bank of England and the East India Company saw 85 percent of their shares changing hands.14 The advent of large-scale technology for industry and infrastructure in the nineteenth century made the joint-stock format increasingly useful in a number of business sectors. Transportation companies (canals, roads, railroads, shipping), utility companies (electricity, urban tramways, water and sewer), mining companies, and the companies that insured them all increasingly relied on the joint-stock format for business development. These companies shared in common huge initial capital requirements that lay well beyond the reach of the average personal, extended family, or community financial network. In England and across Europe the joint-stock regulatory legislation was altered to facilitate its use after 1856 and was immediately employed in these capital-hungry sectors.15 Banks, railways, mining, and insurance companies figured among the earlier British joint-stock companies, but some manufacturing companies began to form as publicly owned companies by the 1880s.16 The majority of the German joint-stock companies were railway companies, and many were mining concerns, while the largest single category of the French joint-stock companies formed from 1855 to 1870 was insurance companies.

The Rise of the Joint-Stock Corporation in Brazil Many of the changes experienced in Europe over the course of the late eighteenth and nineteenth centuries—from small, self-financed companies to large, joint-stock companies—were evident in nineteenth-century Sa˜o

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Paulo. The nineteenth century, as we saw in Chapter 2, was a critical period of evolution from personal finance to institutional finance in banking. This evolutionary pattern—from personal to institutional—was evident in business finance. While the personal or family form of business finance was important in colonial and imperial times, and remains important in Brazil to the modern day, significant gains in institutional business finance were made over the second half of the nineteenth century that laid the groundwork for Sa˜o Paulo’s phenomenal industrialization at the turn of the twentieth century. As in European, North American, and other Latin American economies, Brazilian business finance from colonial times into the nineteenth century was primarily family or merchant based. Sergio Birchal’s study of entrepreneurship in Minas Gerais, Joseph Swiegart’s study of coffee factors in Rio de Janeiro, Eul Soo Pang’s study of noblemen in the Empire, and Darrell Levi’s research on the Prado clan of Sa˜o Paulo all touch on the fundamental importance of merchant ties and extended family in business finance.17 Sa˜o Paulo’s Prado clan, for example, generated its family fortune first in smalltime merchant activity, then in tax collecting, sugar cultivation, mule trains, and money lending. This fortune, protected by the practice of intraclan marriage, funded the agricultural, commercial, and industrial entrepreneurial activities of uncles, brothers, cousins, and sons and made the family one of the wealthiest and most powerful in Sa˜o Paulo.18 Other Sa˜o Paulo clans, like the Souza Aranhas, the Souza Queirozes, and the Queiroz Teleses, to name just a few, parlayed proceeds from merchant activity, muleteering, and smallholding into coffee cultivation, and then into banking and railroad development, attracting titles of nobility along the way.19 But private sources of money were as important for funding the more workaday businesses that served Sa˜o Paulo’s urban dwellers as they were for notable families. Almanacs from the capital city in the 1850s and 1870s listed hundreds of single proprietorships offering artisanal, commercial, and professional services to urban dwellers.20 In the absence of regulatory legislation that promoted investment in corporations, entrepreneurs participated in the market as their savings and profits allowed. While these strategies were good solutions for new business formation in the colonial and early national era, solutions that permitted a fair degree of small-scale domestic economic development and diversification, they presented a nineteenth-century follower economy like Brazil’s with two serious problems. First, entrepreneurs in follower economies were competing, whether directly or indirectly, with the newly industrial nations of Europe and North America. Treaties and tariffs with industrial producers like Britain gave preferential access to imports, meaning that superior goods entered

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the Brazilian market at prices competitive with domestic manufactures. We can imagine that Brazilian entrepreneurs might shy away from producing import substitutes altogether, given the price and quality disadvantage that their products faced. Amazingly, many did seek to provide domestically produced goods that had traditionally been imported.21 This was impossible without adopting similar production techniques and technologies. These, however, required capital. The second problem that private finance posed for business formation and development in the nineteenth century was its limited ability to raise large amounts of capital for critical improvements like physical infrastructure. If an entrepreneur wanted to import technology to produce at home goods that had only been imported, he required some means to physically move that technology from port to factory.22 Historical accounts abound of machineries dismantled at port, loaded onto mules, and carried over mountains to then-remote interior provinces. The costs associated with this arduous process were so high that they eroded whatever materials and labor cost advantages entrepreneurs could capture in domestic production. Research by William Summerhill demonstrates that the introduction of railways produced significant gains to the economy from the lower transportation costs, attesting to the importance of physical infrastructure development for economic growth.23 This physical infrastructure, however beneficial, was itself costly and well out of reach of traditional avenues of finance. Other types of infrastructure, including urban improvements that served the domestic economy (water and sewer, electricity, urban transport), were similarly expensive. The solution to these bottlenecks in Brazil was the same as in Europe: the adoption of the joint-stock format for business formation. The joint-stock format was authorized by the imperial government as part of a major overhaul of all commercial legislation undertaken at mid-century. The legislation followed two related strands: laws that regulated the joint-stock companies per se and laws that regulated the brokers who mediated the sale of their equity and debt. Joint-stock companies were first legalized in 1849, and the laws regulating the brokerage profession were embedded in the Commercial Code of 1850, introduced in Chapter 2. As argued there, the relatively rapid growth of the planter, factor, merchant, and exporter population involved in the coffee trade made it critical to standardize business practices to facilitate exchange and minimize fraud. The Commercial Code formed the basis for a body of laws written in the 1860s and 1870s to regulate the legal forms of business organization, including the fiscal responsibilities of partners and investors in the case of failure and the legal means to invest in and trade shares of these companies.24

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In twelve months’ time and in two legislative moves, the Brazilian imperial government endowed the economy with great possibilities to break out of the boundaries imposed by traditional forms of finance. The result was the growth, however modest, of the joint-stock company format, the emergence of a regulated brokerage profession, and, ultimately, as we will see in Chapter 4, the organization of the Sa˜o Paulo Bolsa. As in Europe, this was a cautiously embraced solution that kept joint-stock companies on a short leash, but for those companies that had no other means of finance the restrictions were the price of admission to a new, bigger capital market. The 1849 legislation permitting the incorporation of joint-stock companies set the tone for a conservative, cautionary approach to domestic business formation that would last for the next forty years. The inaugural law required the founders to petition the government for incorporation. The petition had to include information on the location and purpose of the company, for how long it would operate, its capitalization, and the method of administration. In addition, the founders had to submit a contract specifying how much capital each of them was contributing to the business and by when that capital would be paid in to the new company. The petition would then be submitted to the president of the province in which the company would operate. It was the duty of the provincial president to evaluate the petition and pass it along to the appropriate ministry in the Court. The evaluation was to consider whether the firm showed good faith in business matters, had a good chance of succeeding, and whether the “quality and morality of the underwriters give sufficient guarantees” to support the petition.25 Above all, the president was called on to evaluate whether the founders had the material means to make their capital installments on time. The provincial president’s assessment was probably the most important step in this process because these presidents were appointed by the very Council of Ministers to whose ministries the assessments were submitted. Once in the hands of the government, then, the petitions were reviewed and voted on in the Chamber of Deputies. The 1849 law gave the Brazilian economy an important gift in the jointstock company, a gift that would allow businesses to potentially form at an entirely new level of size and technological sophistication. This legislative gift did not come without significant and substantial strings, however. Over and over across three decades, additions and modifications to the business regulatory legislation depicted a government that lurched between some desire to promote innovation and a seemingly greater desire to squelch it. The regulatory environment permitted a format in theory and hamstrung it in practice.

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There were several problems, big and small, with the regulations on joint-stock companies. Smaller problems included requirements that companies were not considered “constituted,” and hence could not begin operating, until 25 percent of their capital had been paid in within a contractually set time frame.26 This meant that the entrepreneur had to line up investors and get them to ante up a portion of their investment shortly after the charter petition was granted. Stock prices were customarily priced at 200 mil-réis, or about US$100, and were paid for in 10 percent monthly or bimonthly installments. This meant that an investor had to come up with 20$000, or about US$10, for periodic “capital calls.” While this did not represent a great burden overall, the statute made it clear that each investor had to be in compliance. If one investor fell behind in installments, the entire company was put on hold, regardless of the total capital raised. The bigger problems were monumental. The first was the requirement that each company petition the state and national governments for permission to incorporate, which meant that personal contacts in a patronagesteeped government were most likely required to gain a hearing.27 Moreover, those who sought these charters had to be willing to live with significant government oversight. An 1859 law that reinforced the requirement for a government charter granted the government extraordinary access to the business practices of chartered companies. The language of the law’s summary paragraph makes clear the no-nonsense attitude of the government toward these chartered companies: “This decree imposes upon banks and other joint-stock companies the obligation to periodically remit it balances and other documents to the relevant Secretaries of State.” 28 Specifically, the 1859 law required that all joint-stock companies submit to the provincial president and to the Court (Secretário do Estado de Negócios da Fazenda) a record of the previous week’s operations. Joint-stock banks, in particular, were directed to list each type of letters or bills “of any nature” that they listed among their assets; state the level of capital, reserves, and cash on hand at the end of that week; and account for changes in their demand and time deposits and loan payments. In short, they were required to produce weekly financial statements for the government’s review at both the provincial and imperial level. While banks were singled out for mention, the legislature made it clear in the law’s third article that this requirement extended to all chartered companies. Companies that missed a deadline were fined. Companies that failed to comply faced possible revocation of their charter. Clearly, the requirement to apply for a charter and then endure constant government monitoring presented a major hurdle to the corporation, so

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there would be a temptation to form a joint-stock company, which would not be subject to so much meddling. While there is no record of such unofficial companies, due to their lack of legal recognition, we can infer from a major piece of legislation drafted in 1860 that unchartered joint-stock companies were common enough to get the attention of government regulators. The 1860 law, which became known as the “Law of Impediments” due to the short regulatory leash it placed on corporations, spent most of its ten pages spelling out all the ways in which the government had the sole authority over the formation of joint-stock companies.29 Any company that had had the audacity to form through the sale of stock to shareholders without properly petitioning the government for the right to do so had exactly sixty days to submit the necessary papers. If the directors failed to, any shareholder could petition the government for formal authorization. If a company still failed to formalize its existence, it was to be immediately dissolved. In no uncertain terms would companies formed by the sale of stock to shareholders exist outside of the government’s regulatory environment. The government persisted in this ferocious oversight for more than twenty years, but eventually gave up its right to closely control joint-stock companies in an 1882 law that was a major revision to company law.30 The 1882 law eliminated the need for a government charter for all but a handful of company categories. Banks still had to apply for a charter, as did religious organizations, savings and mutual aid societies, food processing companies, and foreign corporations, but all other types of businesses were free to organize as joint-stock companies simply by filing with the local Business Council ( Junta Comercial) their statutes and an affidavit declaring that they had raised 10 percent of their capital. There were certain public disclosure requirements, such as the requirement that they publish their statues in the official journal of their province, but they were no longer required to submit weekly or monthly financial statements with the government and they could be up and running at far lower levels of capitalization (10 percent as compared to 25 percent in earlier laws). While this legislative reform should have sparked new business formations, it again came with a string attached that made it unpalatable to all but the most capital-hungry sorts of businesses. The string in this case was unlimited liability. All shareholders were responsible for the full value of their stock for five years after purchase, even if it had been traded away. If a firm was discovered to have fraudulently distributed dividends to its shareholders, even without the knowledge of its investors, the shareholders were responsible for the repayment of those dividends for five years from the date

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of the distribution. These liabilities provided creditors with a sort of insurance policy in cases of insolvency. The law stipulated that careful records be kept of capital installments made and of transfers of shares between parties, such that only the shareholders of record at the time of the fraud or actions that led to insolvency would be held responsible, but this was hardly comforting. A fraud that went undetected for years could come back to haunt an investor who no longer owned stock in the company. Under the provisions of the 1882 law, then, it became far easier for the entrepreneur to form a company but far riskier for the investor to invest. Brazil’s reluctance to embrace new businesses by way of drafting businessfriendly regulatory legislation is generally considered to be an artifact of the Brazilian government’s dedication to protecting trade, particularly the export sector.31 While there is evidence to support this, such as legislators’ pronouncements against domestic industry, Brazil’s regulatory environment was not behind the times compared to other, now-developed nations. England, for example, had long held limited liability joint-stock companies at arms length, considering them to be morally suspect.32 Because the joint-stock company divorces ownership and control, it was considered to be a potential site of mismanaged assets and inability to meet debts. This suspicion was due in no small part to the South Sea Bubble of 1719 –20, a brief and euphoric time during which almost two hundred joint-stock companies were proposed, based on the promise of bringing great wealth to shareholders. The frenzied inflation, followed by the collapse, of securities prices, had caused the government to actually outlaw the joint-stock company for a century (1720 –1825), permitting such companies only with the permission of Parliament, similar to the Brazilian chartering system.33 The British would allow these morally suspect, capital-hungry companies to form, but it would keep a close eye on them. While British legislation regulating chartered companies predated Brazil’s by more than a century, it was actually fairly rare to receive a joint-stock charter in England until 1856. In fact, Brazil’s “Law of Impediments” was strikingly similar to England’s Joint Stock Banking Act of 1844, which tried to regulate and restrict new bank formation. The Act required new banks to obtain a charter from the Board of Trade and to meet minimum capital requirements. According to Philip Cottrell, only twelve banks were formed while the Act was in place (1844 –57).34 In fact, it was not until 1856 that England substantially revised its company law to make it more business friendly, a revision that was adopted in western Europe in the second half of the nineteenth century. Cottrell emphasizes the point that after 1856 En-

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gland “had the most permissive commercial law in the whole of Europe and one of its distinguishing features was ‘the facility for the formation of a company.’” 35

The Brokerage Profession in Brazil The “facility for the formation of a company” would come to Brazil only with the end of the Empire in 1889. Until then, corporations were guided by the restrictive principals of the 1849, 1860, and 1882 company laws that either gave the government extraordinary oversight or saddled investors with unlimited liability. While this dampened business formation using the joint-stock format, the government did create the conditions to trade these stocks with relative ease by formally regulating the brokerage profession. The government clearly recognized that it had created a transferable asset; it now needed to address the mechanism for that transfer. The legislation that concerned brokerage activity and regulated the purchase and exchange of equity shares was simple and relatively unchanged throughout much of the nineteenth century. The legislation first regulating the brokerage profession was embedded in the Commercial Code of 1850. The Commercial Code dedicated some six pages and thirty-two articles to define the parameters of brokers and their business. Brokers had to be male, at least twenty-five years old, have at least one year’s residency in the city in which they worked, be Brazilian-born or naturalized citizens, and could not have ever gone bankrupt due to speculation or deception.36 The Commercial Code required that brokers keep meticulous records of each transaction in which they acted as intermediary, numbered in order of execution, with the names of the parties, the quantity and price of the negotiated instrument, any terms and conditions, and any other information needed for future clarification. Duplicate copies of the record book had to be kept and both books reviewed by the Commerce Tribunal. The broker was fined if the two did not match word for word, to eliminate the possibility of fraud. The punishment for fraud was the loss of guarantee funds and criminal prosecution, penalties that would forever ban the offender from the profession. Brokers were to assist in the transfer of goods sold through their intermediation, in case of any problem, and were fined for damages if they did not fulfill this obligation. Brokers were additionally required to provide copies of the transaction record to both parties within forty-eight hours of the transfer of the goods. The penalty for this was loss of commission. Finally, brokers were prohibited from acting as directors, administrators, or

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managers of companies in whose shares they traded to avoid any potential for conflict of interest. The regulations were obsessed with establishing and protecting the integrity of the brokerage profession. The meticulous detail of the Commercial Code was meant to leave no room for error or doubt. Anyone going to a broker knew with certainty that that person had certain characteristics and trustworthiness. The trustworthiness of a broker was enhanced by the requirement that each broker must have fiadores, individuals in good standing who acted as guarantors by putting up a bond to be used in case of fines or indemnification due by the broker to his clients.37 The Commercial Code set the parameters for brokerage activities, but each province’s market had its specific rules. For example, a companion decree written in 1851 was aimed specifically at brokers operating in Rio de Janeiro.38 This decree set the rules for Rio de Janeiro, but in practice it set the pattern for all other markets. It established that brokers must be nominated by the Commerce Tribunal (later known as the Junta do Comércio, or Business Council). It set the number of stock and bond brokers at ten in 1851. The number could be raised by the government, in consultation with the Tribunal, but could be lowered only through attrition. The decree set the guarantee bond at the breathtaking sum of 10:000$000, or about US$5,000 at that time, which effectively limited the brokerage profession to members of the elite.39 Anyone operating a brokerage without official title from the Tribunal was to suffer criminal prosecution and receive a fine at three times the value of the brokerage. The Rio decree defined the appropriate broker activities to be the purchase, sale, or transfer of any public funds, domestic or foreign; the negotiation of letters of foreign exchange and commercial loans; and the purchase and sale of precious metals. The decree set the commissions to be paid by the buyer and seller. The commissions were the same for bonds, stocks, and precious metals, but only the seller paid a commission on commercial paper, such as discounts. The prevailing commission was 1⁄ 8 percent on the value of the good being transferred and 1$000 (one mil-réis) on each share of company stock. No broker had the right to alter the commission schedule set in the Rio decree. Finally, the Rio decree formed a Broker Council ( Junta de Corretores), elected annually, to preside over the brokerage profession and contain its activities within the legal limits. This effectively meant that the council was to investigate any reported irregularities, settle disputes between brokers, and to quote or set daily the prices of foreign exchange, public debt bonds, dis-

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counts, precious metals, stocks, and any “new entries to the market which are susceptible to establishing a price and regular exchange.” 40 All brokers had to meet to undertake transactions in the exchange building, and at closing time they were to meet to verify the prices of the day’s transactions. Decrees for the provincial markets were to obey the Rio decree except where noted, and the changes usually involved a smaller number of authorized brokers and some alteration in the commission schedule. The regulation of the brokerage profession was enhanced by the imperial government’s passion for stamp taxes. The government required that stamps be affixed to just about every sort of transaction, and this tax was extended to cover the transfer of company stocks, promissory notes, and other types of commercial paper.41 This regulation is relevant, in the sense that it required further documentation of trades. The brokers were required to write out a detailed record of the transaction, and both the brokers and the fiscal agents selling the stamps had the right to inspect each other’s books at the end of each semester. Because companies also paid a tax on the capital they raised, their shares had a stamp affixed to them as well and could not be traded without the stamp. The stamp taxes, then, introduced a tangible system of checks and balances to uphold the regulatory legislation. The consolidation of the brokerage profession came in 1861 when it became illegal to transfer any “paper that may establish in the marketplace some price and regular exchange” except through a broker.42 The Commercial Code had detailed how to be a broker, but had not given the profession the monopoly right to act as intermediary. This monopoly was extended in the 1861 decree, a law which was primarily designed to regulate the formation and conduct of joint-stock companies. As a part of this law, the creation a joint-stock company and the rules for stock trading were linked for the first time. The 1861 decree declared that the bulk of trades occurring through brokers had to take place within the designated exchange building and had to be concluded by one half-hour before the afternoon brokers’ meeting mentioned earlier. The decree set out a schedule of fines for brokers who met outside of the exchange building or at a different time, and reinforced the peer responsibility introduced in earlier legislation through a series of fines.43 The 1861 decree included exceptional cases when brokers were not required to mediate a trade, but even those trades required extensive paperwork explaining why a broker was not used. This documentation was then submitted to the Brokers’ Council so that the terms of the exchange could be entered into their accounts. The brokerage profession was highly regulated, then, at mid-century.

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By the 1870s, the trade of company shares, discounts, government bonds, and other types of paper was so voluminous that legislation was drafted to specifically regulate their exchange and determine the proper manner to quote market prices.44 This 1876 decree stipulated that all trades take place in an area of the designated commerce building ( praça do comércio) that was to be separate, elevated, and in full view of the public.45 The transactions were to be called out aloud by the brokers, after which clear and precise notes of the transactions were to be written up and posted until closing. At the end of the brokers’ meeting, all prices were to be entered into a bulletin, which was presented to the Broker Council and logged in their book. An outside commission composed of local businessmen was entitled to review the quotation book once a month. This was the first time that brokers were subject to external regulation, which suggests that their profession was growing and was active enough to warrant new record-keeping systems.

The Corporation and the Broker in Sa˜o Paulo’s Early Economic Modernization The two legislative strands developed in the nineteenth century, company law and brokerage regulation, worked together to create a real possibility of founding large companies for the first time in Brazilian history. The jointstock legislation created a business format that allowed entrepreneurs to tap the savings of a large, unrelated pool of investors of all sizes, investors who might put up anywhere from $100 to thousands of dollars to acquire company stocks and bonds. The brokerage legislation established clear rules and regulations for the exchange of these stocks and bonds, giving investors the flexibility to liquidate their holdings or alter their portfolio with ease and with security. The company laws were restrictive, in that they either required firms to petition for a government charter or they saddled investors with unlimited liability, but the extensive set of rules and regulations regarding brokers and the exchange of stocks and bonds set the stage for equity capital to become an important source of corporate finance in Sa˜o Paulo. The importance of equity capital in business finance was apparent in Sa˜o Paulo from the 1870s, when the first major joint-stock companies were formed there. These companies, primarily railroads, used the stock market in two principal ways. They issued equity shares in their companies to raise the large sums of capital necessary to found the business, and they relied on the ability to exchange those shares, through brokers, to provide their investors with a liquid asset. Because of the existence of brokers and of a strict legal framework within which the companies were formed and brokers op-

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erated, companies were able to gain the trust of the investing public that their shares represented a true value. Most businesses that formed through the sale of stock before the end of the Empire were limited to just four areas: banks, railroads, urban transport, and public utilities. Because of the size of their capital requirements, these companies were not easily funded through traditional kin-based or community-based sources of capital and had to rely on a pool of investors to supply them with their capital. Of these, banks and railroad companies dominated. Investment in equity capital, originally in banks and railroad companies, became common by the 1870s. Just two publicly held companies operated before then, the Banco do Brasil and the Paulista Railroad Company, founded in 1856 and 1868, respectively, but by the end of the 1870s a total of eighteen joint-stock companies had been formed.46 Prominent among them were the Ituana, Sorocabana, and Mogiana Railroads, the Banco Mercantil de Santos, and the first urban transport company, the Companhia Carris de Ferro de Sa˜o Paulo. These five companies, plus the Banco do Brasil and Paulista Railroad, all authorized to operate by 1872, together accounted for 18 million mil-réis of paid-in equity capital by 1877.47 The remaining eleven joint-stock companies represented river transportation, maritime insurance, public works, sugar processing, and foodstuffs.48 Although we know from later censuses that fully one-third of all industrial capital in existence in Sa˜o Paulo in 1907 dated to the pre-1890 period, none of it was raised through the sale of equity. Sa˜o Paulo’s brokers either helped a company with its original stock offering, by selling its stock for a percentage of the proceeds, acted as middleman for a client wishing to buy or sell a particular stock, or bought up existing shares on their own account and sold them for a profit. Because shares did not have to be fully paid-up before being traded, the potential pool of investors in the marketplace was greater than it would have been had the government required full capitalization before trading. The 1849 and 1860 company laws required that 25 percent of the par value be paid-up before trading, but the 1882 law lowered that requirement to 20 percent of the share value. Circulation of these instruments began, then, within months of their initial offering. The city’s newspapers carried advertisements by brokers from the late 1870s through the mid-1890s. Some announcements, usually from wellknown brokers and capitalists, offered detailed information on their practices. An 1880 announcement by Emílio Rangel Pestana, who ten years later would found Sa˜o Paulo’s first stock exchange, listed a number of financial services typical of larger brokers:

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We undertake the purchase and sale of shares of railroads, banks and other companies, government bonds, houses, country homes, lots, and agricultural plantations; as well as the promotion of bonded loans, mortgages, insurance, rents, leases; and the solicitation and acceptance in civil service departments of contracts for roads, bridges and other business.49 Included in the advertisement was a list of commission rates for each of these operations.50 Other announcements were anonymous, such as these from 1878 and 1880 regarding shares of the Paulista Railway: “Shares of the Cia Paulista—Buying these at a discount on the Rua da Imperatriz n. 15.” “Shares of the Paulista and Mogiana—We sell shares in these companies on the Rua do Carmo n. 71.” “Cia Paulista—Selling 200 shares of this company. Come to Rua da Tabatinguero, no. 81.” 51 Such advertisements were found in the journals throughout the 1880s and early 1890s. Major brokers, colleagues of Pestana, offered their particular services to the investing public. The firms of Sá and Andrade and Dr. Paulo Egydio offered to act as intermediaries between clients and the Banco de Crédito Real to procure mortgage loans.52 Dr. Falca˜o bought assets of the defunct Banco Mauá for 10 percent of their face value from investors left holding worthless paper.53 Duarte e Nóbrega bought and sold mortgages letters issued by the Banco de Crédito Real and shares of the Banco de Lavoura; bought shares of the Sorocabana, Ituana (branch line), and Banco de Crédito Real; and sold Sorocabana debentures and shares of the Paulista, Ituana (main line), Sa˜o Paulo Tram Company, and the Banco Comercial.54 The expansion of the brokerage profession was made possible by the growing use of equity finance in the formation of joint-stock companies. Railroad company documents, in particular, attest to both the importance of equity capital in financing the company’s fixed capital investments and the appetite of the investing public for railroad shares. The annual reports for the Companhia Mogiana, for instance, chronicle a steady stream of new stock issues during the 1870s and 1880s. Each issue was dedicated to a particular branch of the railroad company’s network, and this appears to have been the preferred manner to raise large sums for business expansion for all the companies. The original capitalization of the Mogiana was 15,000 shares for a total of 3 million mil-réis, or about 1.5 million dollars.55 Two years later, 7,500 shares were issued to build an extension to the original line. By 1884, another stock issue of 13,600 shares had taken place, this time to finance the company’s Ribeira˜o Preto line. Issues followed in 1886 and 1887 to finance two more lines. Each of these stock issues corresponded to discrete investments in particular branches, and was accounted for separately in terms of

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profits and dividend payments.56 By 1887, the company had 80,700 shares outstanding, worth 16 million mil-réis, with plans to issue 34,300 more shares to pay for two new lines. Similar stories can be told for the other railroad companies. The Paulista Railway Company was formed in 1868 with an initial capitalization of 25,000 shares at 200 mil-réis apiece. Using this domestic capital, it built the first line into the coffee countryside from Jundiaí to Campinas, which was inaugurated in 1872.57 Plans to extend this line from Campinas to Rio Claro were announced in the following year, with financing to come from the issue of 20,000 new shares. More than 19,000 of these were subscribed immediately, demonstrating the high level of interest in this company’s stocks.58 By 1881, the company had issued new shares to pay for additional lines totaling more than 61,000 shares outstanding. By 1889, that figure had risen to more than 86,000 shares. In the span of twenty years, the Paulista more than tripled its capitalization through the sale of shares and was valued at more than 17 million mil-réis, or 8.6 million dollars.59 The high level of demand for these shares, suggested by the company’s ability to continually issue new stock, is confirmed by the fact that they also tended to trade at a premium. Annual reports for the Paulista reported that its original shares were routinely commanding a premium of between 32 and 100 mil-réis, 16 –50 percent above par, during the years 1875 – 86.60 Banks, like railroads, went to the equity market initially to raise capital to start operations, and again to expand operations. As we saw in Chapter 2, one domestic joint-stock bank was founded in the 1870s and four new domestic joint-stock banks were formed in Sa˜o Paulo in the 1880s. These five banks together represented a potential 9.5 million mil-réis of capital distributed in 47,500 shares. While not all this money was immediately paid by the shareholders to the banks, which called in capital installments according to their need for funds, the shareholders were contractually obligated to pay up to 200 mil-réis for each share they owned.61 The 47,500 shares, then, represented the promise on the part of investors to provide almost 5 million dollars to Sa˜o Paulo banks by the 1880s. Many of these banks chose to expand their operations during the boom of the late 1880s and turned to the equity market for their funding. Three of the five locally funded banks moved to significantly increase their capital base in 1889. The Banco Mercantil de Santos raised its authorized capital tenfold in 1889, from 1,000 contos to 10,000 contos.62 This amount was never realized, and the new capital base was restated at 5,000 contos in 1894, but the actual paid-in capital of the bank, raised through brokers, tripled overnight. The Banco Mercantil had 1,000 contos paid in by shareholders in

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1888, and recorded 3,250 contos of paid-in capital in 1889. The Banco de Crédito Real underwent a similar expansion. This bank had a maximum capital base of 5,000 contos from 1882 to 1888, and doubled it in 1889 through the authorization of 25,000 new shares. Like the Banco Mercantil, the paidin capital never reached the goal but rose significantly nonetheless. Paid-in equity capital rose from 2,000 contos in 1888 to 5,300 contos in 1890.63 These examples of railroad and bank expansions represented a significant increase in the amount of capital raised through the sale of shares in the 1870s and 1880s, but these were not the only companies seeking funding through equity capital. In addition to the banks and railroads, joint-stock companies engaging in public utilities, urban transportation, insurance, and grain processing were founded during the 1880s and early 1890s. Stock quotes in journals and a report written by a special commission for the president of the province of Sa˜o Paulo listed twenty-eight separate stocks that were traded in 1886 and 1887, and an additional sixteen debenture issues.64 The combined value of these companies’ equity capital reached at least 71,000,000 mil-réis, or 35 million dollars. The listings included twelve railroad stocks (from eight companies), four urban transport stocks, three public utilities stocks, one insurance company, five banks, and three mills. These types of companies were able to attract investors, whereas other types such as industrial companies could not, in two ways. The first was the route the banks took. These began as closely held companies that proved themselves to be consistently profitable by sticking to low-risk, lucrative, commercial banking practices. (See Chapter 5 and the Appendix for profit analysis.) One domestic joint-stock bank was founded in the 1870s and four new joint-stock banks were formed in Sa˜o Paulo in the 1880s. The sector was able to expand during the era of unlimited liability by enticing investors with an established track record based on conservative practices.65 Railroads and utilities followed a second route for attracting investors: government guarantees. These companies benefited from explicit or implicit governmental backing against failure. The railroads built during the 1870s–1890s all received profit guarantees from the government for the explicit purpose of attracting investors.66 The guarantees worked. The railroad companies underwent dramatic expansion during the 1870s and 1880s, and found a seemingly endless pool of investors on which to draw. As we saw, the Mogiana Railroad grew from 15,000 shares worth 3 million mil-réis in the 1874 to 81,000 shares worth 16 million mil-réis in 1887.67 The equity investment in the railroad sector as a whole was worth 57 million mil-réis by 1886, or approximately 28 million dollars, distributed to investors in 278,000 shares (see Table 3.1).

Ta b l e 3.1 Equity Investment in São Paulo Joint-Stock Companies, 31 December 1886

Corporations Railroads: Cia. Paulista Cia. Mogiana Main line Rio Grande line Ribeirão Preto line Penha line Cia. Ituana Main line Branch line Cia. Sorocabana Cia. São Paulo e Rio de Janeiro Cia. Rio Claro Cia. Bragantina Cia. São José do Rio Pardo Urban Transport: Cia. Carris de Ferro de São Paulo Cia. Carris de Ferro de São Paulo a Santo Amaro Cia. Campineira Carris de Ferro Cia. Carris de Ferro de Taubaté Utilities: Cia. Campineira de Iluminação a Gaz Cia. Cantareira e Esgotos Cia. Gaz e Oleos de Taubaté Insurance: Cia. Previdência Paulista Banks: Banco de Crédito Real Banco Comercial Banco Mercantil de Santos Banco da Lavoura Banco do Brasil Mills: Engenho Central de Capivary Engenho Central de Lorena Engenho Central de Piracicaba Total Average paid-in value per share

Shares issued

Capitalization (in nominal mil-réis)

100,000

20,000,000

25,500 25,000 13,600 1,400

5,100,000 7,000,000 2,720,000 280,000

10,263 19,500 36,000 19,536 15,000 8,573 3,755

2,052,000 3,900,000 7,200,000 3,907,200 3,000,000 1,714,600 751,000

13,000 1,500 500 234

1,300,000 300,000 100,000 46,800

2,100 18,901 2,200

420,000 3,780,200 440,000

5,000

200,000

100,000 10,000 5,000 5,000 4,000

2,000,000 1,000,000 1,000,000 500,000 800,000

3,000 2,500 2,500 453,562

600,000 500,000 500,000 71,111,800 157

s o u r c e s : For all companies except Banco do Brasil and Banco da Lavoura, see “Ações de companhias em 31 de dezembro de 1886,” in Relatório apresentado ao Presidente da República de São Paulo pela Comissão Central de Estatística, 171. For the Banco do Brasil and Banco Popular, see Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Number 2140: 1888 –1889. n o t e : Capital is in nominal mil-réis.

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The public services companies, principally urban transportation and utilities, did not receive the same explicit profit guarantees as the railways but were granted monopolies. Just one water and sewer company, one gas company, or one tramway, for instance, received permission to install its infrastructure and offer services in a town. Furthermore, it was the provincial government that set the rates these utilities were allowed to charge. When these utilities companies got into financial trouble, the provincial government either authorized a fare increase or bailed them out, much to the chagrin of consumers, who were vocal in criticizing the bad service and high prices. In an article from 1881 complaining about the abominable service rendered by the Companhia de Gaz, the author wrote that it was useless for Sa˜o Paulo’s residents to complain about the bad service because the city did not answer to the complaints nor did the government auditor call on the company to live up to its responsibilities.68 An article lambasting the muledrawn tramway service in Sa˜o Paulo complained that the Companhia Carris de Ferro de Sa˜o Paulo employed ornery mules that fought their service and put passengers at risk. The author complained that for the prices the passengers were paying, the company should be able to afford “tame mules who dined regularly on pâté de fois gras with alfalfa and truffles.” 69 Apparently the high prices charged by the water company, Companhia Cantareira e Esgotos, were not enough to keep it out of financial trouble. At the same time that the company was drawing the ire of consumers for its prices, it was drawing financial support in the form of a bailout from the government.70 Government documents from 1886 show that the Companhia Cantareira e Esgotos raised a loan from the provincial government of Sa˜o Paulo. This loan was especially illustrative of the protection the utilities received. The advance was to be paid back with a credit the company earned from the Sa˜o Paulo government for every house the Companhia Cantareira e Esgotos serviced. At the end of the transaction, the government, which had fronted both the loan and the funds for “repayment,” owed the Companhia Cantareira e Esgotos an additional 2,000 mil-réis.71 It was clear that this utility had an important safety net that protected it, and its investors, from the liability associated with failure. Significantly, capital formation among these large and important business ventures during this period was a domestic phenomenon. Just one foreignowned railroad and three foreign banks existed in the state of Sa˜o Paulo during this period. The foreign banks had a combined value of less than 10 percent of total bank assets for the majority of the period and only grew when the founding of a third foreign bank pushed that percentage to 20 percent. Additionally, there was only one domestic bank in Sa˜o Paulo at this time that

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chapter 3 Ta b l e 3.2 Percent of Inventoried Wealth Held in Company Stocks, 1861–1895

Bottom 1/3 Middle 1/3 Wealthiest 1/3

1861–71

1872 – 80

1881– 87

1888 –95

2.7% 3.6% 20.9%

9.7% 5.8% 33.6%

6.3% 13.4% 6.9%

19.2% 28.6% 14.8%

s o u r c e : Data in this table are drawn from Mello, Metamorfoses da Riqueza, table 2.3. n o t e : Percentages correspond to the proportion of total inventoried wealth in a time period, allocated to groups according to their weight in the sample. These figures are drawn from 746 inventories.

was not organized as a joint-stock company. As Table 3.4 demonstrates, the bulk of investment in Sa˜o Paulo physical and service infrastructure was raised from Brazilian investors. Not only were most major companies Brazilian companies, but the investors in Sa˜o Paulo’s joint-stock companies were local Paulistas. Zélia Cardoso de Mello, working through the postmortem inventories of wealthy Paulistas, found that the stocks of the major corporations held an important place in the holdings of the region’s wealthy families. Moreover, these stocks represented an increasing share of personal fortune over the second half of the nineteenth century for all income levels.72 Mello’s sample included planters, artisans, merchants, industrialists, professionals, religious personnel, military personnel, public servants, small business owners, and laborers. From the 1860s on, inventories from all levels of wealth showed some ownership of company stocks, with the bottom and middle wealth groups increasing the proportion of wealth invested in stocks the most.73 The clear growing willingness of the public at all levels of wealth to invest in jointstock companies was crucial to the development of Sa˜o Paulo’s new, capitalhungry companies. Stocks were not used solely to fund initial investments. They were used by established companies for a variety of other purposes as well. The two most important uses of stocks by companies, other than finance, were to maintain their reserve funds and occasionally to make dividend payments. Railroad companies routinely allocated a portion of their profits to reserve funds, which they held in their own shares. The Paulista Railroad detailed how this worked in its 1876 annual report.74 The company bought stock with its retained earnings and held the stock in the reserve fund account, valued at par. Because the Paulista’s stock routinely traded above par, the company’s reserves, if they needed to be liquidated, were actually worth more than their declared value. The Paulista held all its reserve funds in its own stock through the mid-1880s. In 1885, however, it began to balance stocks

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with bonds. The company divided its reserve-fund account into two parts: permanent, held entirely in government bonds, and provisional, held entirely in company stocks.75 The strategy of holding the reserve accounts in the company’s own stock was a risky one. Since reserves essentially served as a buffer against losses, they would be liquidated in the event the company experienced a loss. At the same time, a loss would have a downward effect on the demand for the company’s stock, depressing its price and eroding the value of the reserve shares sold on the market. The risk was mitigated in the 1870s and 1880s by the government profit-guarantee program, through which the government provided funds to shareholders in the event of a loss. By the 1880s, however, the Paulista was no longer receiving these guarantees, thanks to its steadily growing profitability. The end of the guarantee program coincided with the shift of the Paulista’s permanent reserves into government bonds, a more secure investment. In addition to holding stocks as reserve funds, most of the railway companies used stocks to pay dividends to their shareholders at one time or another. These stock dividends were usually issued during times of expansion, when the newly constructed lines were consuming resources but not yet generating profits. Because of the newness of the lines, which meant the stocks were not yet fully paid-in, the stock dividends effectively increased the paid-in value of the stock to the shareholders without requiring additional payments by the investors. The Paulista, for example, which inaugurated its first line in 1872, ran into liquidity problems because of the construction of a branch line in 1875. The Paulista paid dividends to the shareholders of the Mogy-Guassú line in fractions of their own stock. Essentially this meant that the company was making an accounting entry that increased the paid-in value of the shares without having actually received installment payments from the shareholders. It declared that this practice could continue until the stocks reached their par value of 200 mil-réis. Apparently it was not the first time they used stocks for dividends, for the annual report said that these shareholders would be paid their dividends “in the same manner as [shareholders] of the Rio Claro line.” 76 The Sorocabana had profitability problems about the same time as the Paulista, which required it to make dividend payments in the form of stocks for two semesters, the second semester of 1875 and the first semester of 1876.77 Shareholders had uses for company stocks for their own purposes as well, usually as collateral for loans. The annual reports of railroad companies show that between 30 percent and 40 percent of stock trades, on average, were undertaken to transfer stock to a lending agent as collateral. By convention,

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determined initially in the Commercial Code and then in the statutes of each bank, company stocks were accepted as collateral for bank loans at 75 percent of their par value. The board of directors of the Paulista Railroad boasted in their 1875 annual report that over 1,000 shares of its stock were held in collateral for loans drawn on the Banco do Brasil in Sa˜o Paulo and the English Bank in Santos, “which signifies the faith in which [the shares] are held and the facility which their holders have in raising capital with them.” 78 Interestingly, the Paulista resorted to this mechanism itself during a time of financial strain. The company used 1,135 shares out of its reserve fund account as collateral to secure a line of credit from the Banco do Brasil in 1880.79 The securities market of the 1870s and 1880s served a purpose beyond issuing and trading equity shares of joint-stock companies (see Table 3.3). Debentures, or bonds of corporate debt, were also issued and traded by brokers during this period. Companies raised capital initially through the issue of equity shares, but when finances were low and an infusion of capital was required, debentures appeared to be the preferred solution. Like equity shares, debenture bonds were long-term loans from the investing public to the company. Unlike shares, debentures were sold at a fixed rate of return, similar to government bonds. Investors might prefer these bonds of company debt over stocks for two reasons. First, the rate of return was fixed by the issuing party and guaranteed to the investor who held the bond to term, whereas returns on stocks could fluctuate according to the company’s performance. Second, bondholders were given preferred status, meaning that they were paid the interest on their bonds before stockholders received their dividends, and that they had first claim on assets in case the company failed. Bonds represented a low-risk, low-reward option for the conservative investor. Among the companies that issued debentures were three of the four major railroads, two utilities companies, and an urban transport company. In all cases, the debentures were tied to assets of the issuing firm. The railroads, for example, typically dedicated the profits from a particular branch line for the repayment of the bonds. This security allowed Sa˜o Paulo companies to raise significant sums through debenture issues. In one example, the Sorocabana Railway raised close to 2,000 contos, or one million dollars, through a debenture issue in 1878.80 The Paulista Railroad issued 1,500 debenture bonds in the same year, raising 1,669 contos.81 The Ituana raised close to 800 contos in debenture bonds in 1887 to pay for the construction of a new line.82 The 1888 report to the Sa˜o Paulo provincial president on the state of the economy listed sixteen separate debentures paying interest rates ranging

Ta b l e 3.3 Debentures Issued by São Paulo Companies as of 31 December 1887

Bonds issued on domestic market (in nominal mil-réis) Railroads: Cia. Sorocabana (paper) Cia. Bragantina Public Services: Cia. Carris de Ferro São Paulo a Santo Amaro Cia. Gaz e Oleos Minerais de Taubaté Mills: Engenho Central de Piracicaba Engenho Central de Lorena Engenho Central de Porto-Feliz Engenho Central de S. João de Capivary Banks: Banco de Crédito Real (mortgage notes) Total domestic currency bonds in nominal mil-réis Bonds issued on foreign market (in pounds sterling) Railroads: Cia. São Paulo Railway Cia. Mogiana Cia. Sorocabana (gold) Cia. Paulista Cia. Ituana Public services: Cia. Cantareira e Esgotos, 1st series Cia. Cantareira e Esgotos, 2nd series City of Santos Improvements Co. Total bonds issued on foreign market in pounds sterling Value of foreign bonds in nominal mil-réis Total value of bond issues in nominal mil-réis

Shares issued

Total bond value

Interest rate

39,829 6,500

3,982,900 1,300,000

6.0% 8.0%

1,500

300,000

8.0%

1,000

100,000

10.0%

1,250 2,500 3,000

250,000 250,000 300,000

8.0% 8.0% 8.0%

1,850

370,000

8.0%

63,042

6,304,200

120,471

13,157,100

7,500 4,830 4,600 1,500 1,400

750,000 483,000 230,000 150,000 70,000

5.5% 5.0% 6.0% 7.0% 6.0%

24,200 2,000 3,000

121,000 200,000 30,000

6.0% 7.5% 6.0%

57,250

2,034,000 21,763,800 34,920,900

s o u r c e s : For all companies except Ituana, see “Debentures,” in Relatório apresentado ao Presidente da República de São Paulo pela Comissão Central de Estatística, 172. For Ituana, see Companhia Ituana Estrada de Ferro, Relatório, 17 April 1887. For exchange rate for 1887 conversion of pounds sterling, see Ódony, A inflação brasileira, 23.

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chapter 3 Ta b l e 3.4 Domestic and Foreign Investment in São Paulo Joint-Stock Companies, 1886 –1887

Equity Railroads Banks Public Service Utilities Insurance Mills Total equity Domestic debt Railroads Banks Public services Mills Total domestic debt Foreign debt Railroads Public services Total foreign debt Total capital sources

No. of companies

Shares out

Capitalization

% of capital

13 4 7 1 3 28

278,127 124,000 38,435 5,000 8,000 453,562

57,624,800 5,300,000 6,387,000 200,000 1,600,000 71,111,800

67.1%

2 1 2 4 9

46,629 63,042 2,500 8,600 120,471

5,282,900 6,304,200 400,000 1,170,000 13,157,100

12.4%

5 3 8

19,830 29,200 49,030 623,063

18,008,100 3,755,700 21,763,800 106,032,700

20.5% 100.0%

s o u r c e s : Relatório apresentado ao Presidente da República de São Paulo pela Comissão Central de Estatística, 171–72; Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Number 2140: 1888 –1889; Companhia Ituana Estrada de Ferro, Relatório, 17 April 1887; Barreto, “Relações econômicas.” n o t e : Figures for equity are as of 31 December 1886; figures for debt are as of 31 December 1887. Capital is expressed in nominal mil-réis.

from 5 percent to 10 percent, and totaling 28,617 contos, or about 14 million dollars.83 The multiple uses of equity shares by companies and their investors in the 1870s and 1880s clearly demonstrate that the lack of a formal exchange did not mean that the functions of an exchange were absent from the Sa˜o Paulo economy. Equity shares, which by law had to be traded through brokers, funded the major companies of the era and occupied a growing portion of the portfolios of Sa˜o Paulo’s wealthy. As Table 3.4 shows, at least twenty-eight companies raised funds through the sale of equity, valued at 71,000,000 mil-réis. An additional 35,000,000 mil-réis came from the sale of debenture bonds on the public market. Finally, stocks served as collateral for a large number of bank loans to the companies and their investors. All in all, millions upon millions of dollars were raised from investors and channeled into large joint-stock companies in what amounted to real capital formation and the creation of a generation of investors. The appetite for shares, witnessed by the ability of railroad companies to continually and effortlessly expand their offerings, demonstrates how powerful public investment came to be over the period. The expansion of bank-

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ing explored in Chapter 2 likewise owed itself to individuals interested in obtaining a return on their surplus capital, whether through equity investment or deposit accounts. This faith in the capital market rested on the institutional soundness of the brokerage profession. Extensive regulations allowed for clear lines of responsibility and punishment if the trust of the investor was betrayed. The result was an acceleration of business activity after 1870, led by railroads and joined by banks, utilities, and transportation companies, and fueled by the saving public’s acceptance of company stocks as a sound place to invest their money. By the height of the coffee boom in 1886, at least twenty-three companies raised funds through the sale of close to 450,000 shares, representing 35 million dollars of equity investment. Although the joint-stock format for business organization did not spread beyond a few basic sectors, the growth of these sectors, one result of the coffee boom, gave Sa˜o Paulo investors a few stocks on which to cut their teeth.84 Specifically, use of the joint-stock format for business organization helped Sa˜o Paulo found a provincial bank sector and raise capital for a large railway system that opened up the province’s agricultural frontier and made possible the expansion of the coffee boom. The data clearly show that the bulk of the capital for these endeavors in Sa˜o Paulo was raised from native investors through the sale of equity capital.85 Almost 65 percent of public utility finance and more than 77 percent of railroad finance came from domestic stock and bondholders. Total domestic capital raised to fund joint-stock corporations in Sa˜o Paulo outpaced foreign capital by four to one. Moreover, this handful of locally funded joint-stock companies spawned the brokerage profession in Sa˜o Paulo that was to become one of the most important institutional developments in Sa˜o Paulo’s financial history. As we will see in the next chapter, the stock market that evolved out of these early brokers was the most dynamic capitalmarket institution in this period of structural transformation.

Chapter 4

The Republican Revolution and the Rise of the Bolsa

The cautious regulation imposed by the imperial government on the realm of business finance and capital market development was suddenly and dramatically eliminated in early 1890 as part of a political and economic revolution that shook Brazil. The Republican coup of 15 November 1889 put an end to the reign of Dom Pedro II and to the Empire. By January, radically different commercial legislation was written and implemented. Within a few months of this change, more joint-stock companies formed in Sa˜o Paulo than had formed since the introduction of the joint-stock format in 1849. This explosion of business formation gave rise to one of the most important financial institutions in Sa˜o Paulo’s history—the stock and bond exchange, or Bolsa. This chapter examines the contribution of the Bolsa to Sa˜o Paulo’s extraordinary spurt of economic development and diversification in the era of the coffee boom. After a decade of slow but profound structural change in the 1890s, when it formed, failed, and formed anew, the Bolsa experienced a decade of rapid expansion and diversification into equity and debt issues that financed a broad range of new urban and industrial ventures. This short, sharp burst of activity had a profound and lasting effect on the region’s economic development because the Bolsa bypassed the personal connections of old money to go straight to the public to raise funds.

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The Political Economy of the Republican Coup The economic revolution introduced by the new Republican government freed up the domestic economy from all the restraints imposed on it by the old imperial regime. As we saw in Chapters 2 and 3, the imperial era was a time of great tension between the potential for economic growth and diversification generated by the coffee boom and the limitations placed on business formation and finance by government regulatory legislation. It is clear that the imperial government recognized the inadequacy of personal financial intermediation and sought a remedy in commercial legislation that created banks, joint-stock corporations, and brokers to trade in their stocks and bonds. However, these institutions were hamstrung by chartering and liability provisions that dampened investor interest and made it difficult for all but the most capital-hungry physical and service infrastructure companies to use them. The new Republican government was intent on correcting the ills of what it considered an overcentralized, unrepresentational, and arbitrary political system.1 The centralism of the monarchy was blamed for the interference by an outdated oligarchy in the efficient development of the nation. The new government was formed as a federal system, which gave the states more autonomy in conducting their own affairs and in influencing the path of the government than they had had as provinces of the Empire. The impetus for this reform came, in part, from the shifting economic fortunes within Brazil’s borders. The political center of power had long been the Brazilian Northeast, the home of sugar production, which had been Brazil’s mainstay for more than two centuries. This region, however, had entered into steady economic decline during the nineteenth century and was eclipsed by the increasingly wealthy coffee-growing regions of the Center-South. The new political order reflected this shift. The practical result of this new political system was to make the interests of the economically wealthy states, Sa˜o Paulo principal among them, the interests of the nation.2 Sa˜o Paulo had achieved geographical integration through the development of its railroads and port facilities, funded by the sale of equity to the investing public, and was unified economically by the ability of most of its regions to prosper through coffee production. These attributes, plus an expanding population in a representational government, placed extraordinary influence over national economic policy in the hands of the Paulistas and their allies.3 The new power of the Center-South states meant that the development

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of the internal economy became a key policy objective.4 Both Sa˜o Paulo and Rio de Janeiro were in the process of diversifying their economies away from agriculture toward industry and sought policy support to ensure the viability of this new endeavor. The new finance minister, Rui Barbosa, immediately implemented laws to expand the use of the joint-stock format in business creation and to expand institutional finance in the economy to achieve the new government’s goal. The result of these laws was one of the most aggressive periods of business expansion in Brazilian history, known as the Encilhamento, during which time hundreds of businesses formed at a breathtaking pace.5 The Encilhamento, which lasted from early 1890 to mid-1891, has long been considered to have been a purely speculative, inflationary period in Brazilian economic history which produced no real growth or accumulation in the economy.6 This opinion, held by contemporaries, made a lasting impact on historical studies of the period. For example, an article printed in a Sa˜o Paulo newspaper in 1891 titled “Sa˜o Paulo and the Gamble” decried the speculation and easy credit of the era. Individuals who “required a financial backer to get their suit back from the tailor” were now flush with credit and presiding over multimillion dollar enterprises.7 Research has shown, however, that in spite of the clearly rampant speculative environment, real business expansion took place.8 The biggest impediment to business formation prior to 1890 had been the negative provisions of imperial company law. The 1849 and 1861 laws had required business owners to apply for a government charter to organize. The reform of joint-stock company law in 1882 had paved the way for a freer business environment by removing the requirement for a government charter and by lowering the level of paid-in capital required to begin operations and trade stock, but the liability associated with stock ownership was onerous and acted as a brake on new company formations.

Regulatory Reform and the First Sa˜o Paulo Bolsa The reforms in January 1890 sparked business formations by lowering capital requirements to operate and trade stocks and by virtually eliminating shareholder responsibility for the value of their own shares. Companies could now operate once 10 percent of capital was paid in, that is, when shareholders had made the down payment required to subscribe to the stock offering, and stocks could be traded once 20 percent of their value had been paid in. More important, shareholders were absolved of all responsibility for the value of their shares. All that was required to limit their liability was that

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they vote to approve the company’s financial statements at the annual stockholders’ meetings.9 Not surprisingly, the number of new businesses formed was huge. In the six months after the reform of January 1890, at least 222 joint-stock companies and banks were founded in Sa˜o Paulo, compared with 30 in operation in late 1887.10 The reforms of January 1890 created so much demand for company stocks that the papers were filled with advertisements by anxious buyers seeking anyone who was willing to part with their shares. This increase in equity-financed companies was made possible initially by the brokers of Sa˜o Paulo. Aggressive new advertisements began to appear in the newspapers in January 1890. José Maria Diniz announced through the paper that his office had “large lots of shares” to sell in nine major companies and banks.11 A few days later, major trading activity in the stock of the Banco Unia˜o de Sa˜o Paulo was reported, with at least 1,500 shares attributed to a deal brokered by Diniz.12 In May, the newspaper published an open letter from the friends of Antônio Proost Rodovalho Jr., the son of a leading entrepreneur and capitalist, congratulating him on the sale of 5,776 shares of the Companhia Cantareira e Esgotos.13 This single trade represented 23 percent of the total number of outstanding shares of this company. An example of the excitement surrounding new company formations, and the heightened demand for their stock, comes from the organization of the Banco Construtor e Agrícola. This bank was founded in early 1890 as the heir to the Sa˜o Paulo affiliate of the Banco do Brasil, which gave it an excellent reputation from its birth. An article published just before the stock was opened to subscription noted that public opinion regarding this new bank was very high. The author, in particular, sought to call the subscription of this stock to the attention of “readers and especially capitalists who desire . . . secure returns.” 14 A second article published a week later reported that when the stock was opened to subscription it had been completely subscribed in Rio within three hours, and that the same had occurred in Sa˜o Paulo.15 The result was that the bank stock was fully subscribed twice, leaving the founders with the decision of either holding a lottery to assign shares or raising the capital ceiling. The founders chose the latter.16 The rash of new business formations, and the volume of stock trades they produced, inspired the organization of the first formal stock and bond exchange in Sa˜o Paulo.17 The first Bolsa (1890 –91) was founded by the prominent broker Emílio Rangel Pestana in August 1890 with the purpose of trading securities in organized bidding sessions in an attempt to best serve the rapidly growing population of investors. The Bolsa was the first such organization of brokers in Sa˜o Paulo’s history. It appears that these brokers,

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while subject to the national regulations surrounding the exchange of bonds and securities, did not have the sort of Brokers’ Council common in other markets.18 The creation of the Sa˜o Paulo Free Exchange (Bolsa Livre de Sa˜o Paulo) institutionalized the national legislation at the local level, bringing together independent brokers under an umbrella organization. The Sa˜o Paulo Bolsa had a membership of ninety-three brokers, each of whom contributed a membership fee to pay for the administrative costs. The general operating principles of the Bolsa Livre were drawn verbatim from existing national legislation. Trading sessions were to take place at the Bolsa for one half-hour every day; stocks could only be traded through member brokers, who received a fixed fee per transaction and could never draw back from an accepted bid; and meticulous records had to be kept of each transaction and be made available to the trading association on a daily basis.19 The first Bolsa was certainly used by the investing public during its brief life, but it never became the monolithic trading institution of modern-day exchanges. Initial enthusiasm was high; 300 bonds and 150 stocks were traded in its opening session. Two days later, the volume tripled, when more than 1,300 shares were traded, including those of three banks, two utilities companies, one urban transport company, and a textile manufacturing company.20 Subsequent newspaper reports, however, indicated that investors were sticking with their private brokerage agencies. Over the course of the next months, trading volume off the Bolsa was many times greater than trading on the Bolsa. In any given week, the Bolsa accounted for no more than one-fifth of all trades.21 The majority of trades was handled either by two private brokerage firms, the offices of Antônio Proost Rodovalho Jr. or those of Torres & Toledo, or was simply reported as taking place “off the Bolsa.” Toward the end of 1890 the business boom was showing its first signs of weakness. The lowered capital requirements and limited liability of the January legislative reform had opened the door to fraud and abuse, for stockholders could collude to approve their company’s finances, however unsound, and completely eliminate their own liability. It did not take the government long to recognize this weakness in the legislation. The evidence was in the fact that companies were forming and failing at an alarming rate. The government responded by raising the capital requirements for operation and stock trades. Nine months after the January 1890 reform was passed, the new decree raised the minimum level of paid-in capital necessary for operations from 10 percent to 30 percent and the level of paid-in capital necessary for trading to be allowed from 20 percent to 40 percent.22 These new requirements removed the worst of the speculators from the market because

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they legislated a more serious commitment to any given enterprise, and put companies on more solid financial footing before allowing them to operate. In spite of government efforts to curb the excesses of the Encilhamento through the October counterreform, Paulistas were clearly worried about the health of the business community. Articles in contemporary newspapers expressed concern about the shaky economics of the times. A columnist, critical of the “financial disorientation” of the Encilhamento, warned that the economy had lost sense of the normal rules of supply and demand. Thanks to an abundance of credit, he wrote, individuals who could not pay their food bill at the end of the month were organizing joint-stock companies. The columnist asked rhetorically, “Would there be anyone out there who would organize a company that sells a little common sense?” 23 Within a few months of this call for economic moderation, the newspaper reported that the bond market had been dead for several days, with the only trades taking place outside the Bolsa. It was reported that large numbers of firms, “organized in an improvised way,” were having difficulty maintaining their shares at par or face value, and that the tendency was for a greater drop, should the lack of confidence in the business world continue.24 The column that published stock prices failed to register any trades taking place on the Bolsa by mid-April 1891, and the Bolsa closed in October of that year. Its demise appears to have been due to the drop in the volume of trading from the euphoric levels of the previous year down to trading levels that were even lower than during the days of the informal market. After the Bolsa had been out of business for awhile, advertisements by private brokers began to appear again in local newspapers. These indicated that individuals were still investing in company stocks, in spite of the experiences of the Encilhamento.25 At the same time, stocks were still evident on bank balance sheets. Stocks had peaked as a percentage of earning assets in 1891 at 13 percent, but did not fall far after the crash of the Encilhamento and the close of the Bolsa. Stocks comprised 12 percent of earning assets in 1892, almost 10 percent in 1893, and over 11 percent in 1894. Clearly, company stocks continued to represent an important investment in Sa˜o Paulo. Although the speculation of the Encilhamento undoubtedly led to many failures, many of the businesses formed in 1891 and 1892 survived the crash.26 In spite of the collapse of the first Bolsa, large amounts of equity capital were raised in its wake. Two of the railroad companies, for example, undertook major issues of new stocks after the Bolsa’s demise. The Paulista offered 150,000 shares in April 1892, double its outstanding volume, in order to purchase the Rio Claro Railway Company, a small regional line.27 The Mogiana issued 70,000 new shares in 1893 to raise its number of shares out-

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standing to 200,000. In early 1895 it announced another issue of 200,000 additional shares, 67,469 of which were subscribed.28 Furthermore, the number of shareholders at these two companies continued to grow during the period with no formal trading institution. More than three hundred new investors bought shares in the Mogiana after the collapse of the first Bolsa, most of them small investors.29

Reorganization and Recession The Bolsa was founded for a second time in 1895 and has operated continually since then. Several major brokers, members of the original Bolsa, came together in 1894 to form a broker’s lobby known as the Sa˜o Paulo Trading Association.30 The president, Colonel Antônio Proost Rodovalho, called a meeting of the city’s major brokers on 24 January 1895, at which time it was decided to reinstate the Bolsa. Trading recommenced just two days later. Its return was greeted with enthusiastic fanfare by the press. A regular column for stock and bond quotes was immediately established by at least one of the three major journals, the Correio Paulistano, which extended its “ardent hopes” for success.31 The Correio Paulistano called the new Bolsa “the place where one verifies the energy of those who work and where one appreciates the public fortune, . . . a powerful instrument of modern civilization.” The article continued in its nineteenth-century hyperbolic prose, “We extend our ardent hopes that the majestic building, which just opened its doors to our bankers, brokers, capitalists, businessmen, industrialists and all that pertain to high finance, become within few years—not the modest Collegium Mercatorium of Ancient Rome . . . nor the noisy temporary assembly of the medievals, not even the simple place of the famed Bruges where late players like the rich speculator Van der Bourse only performed, in times not that long ago, account operations without the admirable elasticity which credit gives us—but a great market regulating all the material interests of this advanced populace, like the Stock Exchange, guiding, controlling or driving the financial interest of modern nations in the accelerated march of the times! Honor, then, to Paulista commerce! Congratulations to those prestigious citizens . . . that currently preside over the activity in our business community.” 32 The new Bolsa perhaps met these grand hopes and expectations in its first year or two, but after an immediate and rapid expansion it slumped along with the rest of the economy.33 As we will see below, 1896 turned out to be the peak year for the exchange, and the Bolsa listed fewer and fewer stocks over time. In fact, the number of companies represented on the Bolsa fell by

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more than half by 1905 in all categories but one, largely due to the antibusiness focus of the Campos Salles/Murtinho administration (1898 –1902). The policies of this administration were driven by a desire to purge the economy of the problems generated by the speculation of the early 1890s. Banks had issued notes far beyond their legal limits in an attempt to satiate pent-up demand.34 The rapid rise in paper money supply, primarily because of excesses committed by banks in Rio, resulted in price inflation and exchange rate devaluation. While new banknote issues were halted for the last time in 1891, and the notes were to be out of circulation by 1896, the damage was done.35 The problems created by the exchange rate devaluation were exacerbated by the falling international price of coffee. A crisis of overproduction, fueled by booming demand and improved transportation systems, prompted Sa˜o Paulo planters to expand coffee production from 1886 to 1896. During this period, the amount of coffee planted in Sa˜o Paulo almost tripled, from 141 million to 386 million trees.36 Because coffee trees take four to six years to come into production, the full effect of the expanded productive capacity was not felt until the mid-1890s. The Sa˜o Paulo crop of 1896 contributed to a record world production of almost 14 million bags of coffee, compared to 10 million bags in 1895, and provoked a 33 percent drop in the international price of coffee.37 Even the inflation of the 1890s could not offset the falling international price for coffee after 1897. The falling coffee prices reduced export earnings and, consequently, funds available for imports. Furthermore, the internal price increases had a depressing effect on domestic consumption. The effects of the decline in foreign trade and in domestic consumption, the products of higher prices and smaller incomes, were what put the Brazilian economy in a serious economic slump after 1896. Because of this slump, which followed the euphoria of the first years of the Republic, and in spite of the obvious problems created in the agricultural sector, the attempts to modernize the Brazilian economy were considered at the time to have been misguided.38 At the same time that the inflation of the Encilhamento exacerbated the structural problems of the export economy, it was also blamed for a fiscal nightmare experienced by the federal government at the end of the century that produced the most draconian reforms known to Brazil. The inflation of the early 1890s caused the exchange rate to depreciate, which made everything denominated in foreign currency, such as imports and debt service, more expensive. The lower level of imports that resulted from this devaluation had an adverse effect on the Brazilian government, which relied principally on import taxes for its income.39 Worse still, the devalued currency

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meant that the debt service grew. The government had contracted a significant amount of debt on the foreign market over the previous forty years to finance its chronic budget deficits, only to find itself in deeper budgetary trouble for having contracted the debt.40 The budgetary crises of the late 1890s in turn caused the government to issue more treasury notes to pay its bills, further provoking inflation. The aftermath of the Encilhamento, if not the Encilhamento itself, saddled the Brazilian government with dwindling reserves and ballooning debt service payments. The critical combination of lower revenues and higher expenses caused the federal government to abandon all programs designed to stimulate the internal economy and to refocus on its primary nineteenth-century goal: exchange rate stability. Acting under pressure from Brazil’s largest creditor, the Rothschilds, Finance Minister Joaquim Murtinho had the simple goal of restoring the value of the mil-réis.41 In pursuing this goal, he succeeded in wiping out many of the economic gains made in the 1890s, such as the expansion of the banking system and the creation of new urban commercial and industrial enterprises. Murtinho considered banks to be his primary enemies, for they, after all, were responsible for the expansion of the money supply that ultimately caused the exchange rate devaluation and heavy debt service burden of the 1890s.42 He put in place a series of economic policies intended to strictly curtail the banking sector, to weed out inefficient agricultural producers (blamed for the crisis of overproduction), and to substantially compress domestic industry.43 Several important measures were taken to restore the value of Brazil’s currency and its standing in the foreign capital markets. First, the foreign debt was consolidated under the 1898 Funding Loan, the terms of which allowed Brazil to suspend its debt service payments for thirteen years.44 Second, import taxes were collected in gold so that the government could avoid having to make large specie purchases on the market, which influenced the exchange rate, to satisfy its foreign payment obligations. Third, domestic consumption taxes were introduced to bring in new revenues to the government coffers. Fourth, the money supply was curtailed by withdrawing notes from circulation and destroying them. Murtinho succeeded in his goals. His policies restored the value of the mil-réis, which climbed from 8 pence per mil-réis in 1898 to 12 pence per mil-réis in 1902, and reduced the money supply, which fell each trimester between 1898 and 1901 by about 2 percent.45 Murtinho achieved his policy objectives, but at great cost to the Brazilian economy. The consumption taxes passed in 1898 were created to offset

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the decline in foreign trade revenues but placed a great fiscal burden on domestic businesses. Their structure had the effect of raising the net costs of producers during an economic downturn. The government collected the new taxes in the form of stamps affixed to each product at the factory because it believed it had a better ability to audit the collection than if it took place at the site of distribution. Because the producer would theoretically pass the tax on to the consumer in the form of a price increase, the effect on the producer would be null. In fact, Sa˜o Paulo businesses found that competition in a depressed economic environment meant that they could not increase prices. The stamp tax, then, simply raised the cost of production. The taxes were so high on products considered “artificial” by the government that manufacturers in some cases could not afford to continue to produce.46 This problem was exacerbated by competition from illegal manufactures that popped up in the countryside to produce the same products—beverages, tobacco, shoes, and candles, among others—without paying the tax.47

The Sa˜o Paulo Bolsa and Economic Modernization to 1905 In spite of the economic malaise that followed, the Encilhamento had initiated a time of real economic development and diversification in Sa˜o Paulo. This diversification was led by the formation of the Bolsa and bolstered by the fact that the government left the centerpiece of its new business legislation—limited liability—untouched. These contributed to significant changes in the Sa˜o Paulo economy in the 1890s, principally in the area of industrialization.48 By relaxing the regulations surrounding joint-stock ventures, entrepreneurs found it easy to organize companies or to expand the capitalization of existing companies. The result was a dramatic increase in the number of joint-stock companies engaged in all kinds of business ventures from banking to real estate development to industry. Many, if not most, of these companies were transitory due to the sharp recessionary policies of the central government after the early 1890s. In any single year the number of joint-stock companies listed on the Bolsa was small, giving the impression that little development took place. This impression is mistaken, however. At least eighty-seven companies were formed through the Bolsa during this decade, representing such businesses as machinery and metalworking, furniture making, textiles, hat and shoe production, food processing, beer brewing, paper production, printing, rudimentary chemical production, and other manufacturing and commercial activities.49 While these companies made up a minuscule percentage of all firms in Sa˜o Paulo,

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chapter 4 Ta b l e 4.1 Industrial Firms Listed on the São Paulo Bolsa, 1905 (nominal mil-réis) Company (ordered by size)

Business

Antártica Paulista beer brewery Mecânica e Importadora machinery and metalworking Melhoramentos de São Paulo paper, ceramics, lime Fabril Paulistana textiles Industrial de São Paulo textiles, matches, paper União Esportiva unknown Vidraria Santa Marina glass (supplier to Antártica) Mac Hardy machinery and metalworking Subtotal Norte Paulista unknown A´gua Superaris unknown Industrial de Kiosques unknown Total value of industrial firms on Bolsa Cano’s value of all São Paulo industry in 1907

Capitalization 8,400,000$ 5,000,000$ 3,000,000$ 2,000,000$ 2,000,000$ 1,000,000$ 1,000,000$ 981,000$ 23,381,000$ 800,000$ 500,000$ 100,000$ 24,781,000$ 131,900,000$

s o u r c e s : O Estado de São Paulo, 7 January 1906; Cano, Raízes da concentração industrial, 222.

it appears that the industrial firms among them came to comprise a sizable portion—almost 16 percent— of Sa˜o Paulo’s industrial capital by 1905 (see Table 4.1).50 The food processing and metalworking industries were among the most active employers of the joint-stock format for business formation. These sectors embraced the public capital market during this period. Every single food processing firm I identified in these sectors as operating in Sa˜o Paulo during the period 1890 –1905 was traded on the Bolsa.51 These included three tobacco-processing plants, two meat-processing companies, a coffeeprocessing company (organized by planters), an insecticide manufacturer (likewise linked to the coffee plantations), and an unidentified general mill.52 The machinery and metalworking industry was equally well represented on the exchange. Five of the six firms engaged in metalworking were quoted on the Bolsa.53 Two of the five were the most important metalworking firms in Sa˜o Paulo at the time. These were the Companhia Mecânica e Importadora, which manufactured agricultural machinery, steam engines, and railroad equipment, among other things, and the Companhia Paulista, which was both the largest railroad company and the largest industrial employer in Sa˜o Paulo in 1896.54 Many other businesses, both manufacturing and service firms, were quoted on the exchange from 1890 to 1905. Among the manufacturing concerns, two of three beer companies, Antártica and Stupakoff, were traded on

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the Bolsa, as were the Tapeçaria e Móveis Santa Maria furniture factory and the Companhia Manufatora de Chapéus hat manufacturer. In addition, the largest paper manufacturer in the country, the Companhia Melhoramentos de Sa˜o Paulo, was also traded. At least five urban construction firms were listed on the Bolsa between 1890 and 1905. These companies were supported by a general boom in real estate development touched off by the Encilhamento. In addition to listing a significant part of Sa˜o Paulo’s industrial capital, the Bolsa also listed the businesses of the state’s major industrialists. This is striking because these industrialists, fabled in Brazilian history for their entrepreneurship, have been thought to dominate in their fields through their vast family wealth. In fact, many of the ventures of the Siciliano, Crespi, and Silva Prado families were financed through the sale of equity capital. Several of the industrial and service-sector companies linked to these families were listed on the exchange. At least three of Alexandre Siciliano’s own business interests were traded on the Bolsa: the Companhia Mecânica e Importadora machinery and metalworking firm, the Companhia Alimentícia Sa˜o Paulo e Santos meatpacking firm, and the I´talo-Brasileiro bank. He served as director on a fourth, the Banco Unia˜o de Sa˜o Paulo, which was the parent company of the Votorantim textile mill. Crespi’s Moinho Santista flour mill was traded on the Bolsa, although his Fábrica Crespi textile firm was not.55 The Silva Prado family founded the Banco do Comércio e Indústria de Sa˜o Paulo and had major interests in the Companhia Central Paulista, a coffeeprocessing firm, and the Vidraria Santa Marina glass works, which supplied bottles to the Antártica beer-making company.56 In addition to the businesses described here, a number of other firms were traded on the Bolsa in the 1890s and early 1900s whose lines of business were not identified. Their names, however, provide clues. For example, at least eleven of these companies had the words industrial, manufactora, or fabril in their names, indicating some form of industrial activity. The names of other firms indicate that a host of other activities were represented on the Bolsa. Printing and graphics firms, import companies, insurance companies, and even a beachfront resort hotel issued equity shares that were quoted at one time or another. The second major trend in the Bolsa’s structural transformation during the 1890s was the dramatic growth in shareholding. While just twenty-eight stocks were listed in both 1886 and 1905, the volume and value of shares listed on the exchange had tripled.57 Several factors contributed to this expansion. First, the banks founded after 1890 were significantly larger than

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those operating in the 1880s. With just a few exceptions, the smallest bank traded on the 1905 Bolsa had the same capital value as the largest bank quoted in 1886. Second, two of the railway companies, the Paulista and Mogiana, underwent dramatic expansions. They had acquired some of the smaller lines and continued to expand their own. By 1905, each had an individual capital value greater than the entire railroad sector in 1886, and their combined worth contributed two-thirds of the Bolsa’s paid-in value in 1905. Third, the industrial companies that joined the exchange after 1890 were larger than the infrastructure companies that had dropped off by 1905.58 At the same time that the total number of shares was growing, a sort of democratization was taking place within the capital market. This is to say that the growth in the number of outstanding shares listed on the exchange was accompanied by an increase in the number of individuals investing in the stock market. Evidence from the two largest railway companies, which were also far and away the largest companies listed on the Bolsa, confirms this. The number of investors in the Companhia Paulista doubled from 1893 to 1905, as did the number of investors in the Companhia Mogiana from 1891 to 1903. Each company had approximately 1,100 shareholders in the early 1890s and more than 2,100 shareholders a decade later.59 The growth in shareholders far outstripped the population growth of the state, which meant that the increase in shareholders was not a simple demographic phenomenon.60 A greater proportion of Sa˜o Paulo’s population was investing in stocks in 1905 than in 1890. The records of the two railroads also show that the concentration of shares in the hands of large shareholders declined from 1890 to 1905. Both the Paulista’s and Mogiana’s largest shareholders owned about 14 percent of the company’s stock in the 1890s and just 8 percent of all stock after 1905.61 The expansion of the Bolsa, then, took the form of drawing more small investors into the capital market. The third element of the Bolsa’s structural transformation during this period, albeit the most timid element of the three, was the early signs of a market for new types of bonded debt (see Table 4.2). Before 1890, all bond issues were either government bonds or were tied to the service and physical infrastructure companies that accompanied the boom in the export sector, such as banks, railroads, public utilities and transportation, and agricultural products processing mills. After 1890, government bonds continued to be an important segment of the market, as Table 4.2 clearly illustrates, but these were far more likely to be issued by municipalities to fund their service infrastructure. The city of Sa˜o Paulo had raised loans through municipal bonds

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Ta b l e 4.2 Companies Quoted on the São Paulo Bolsa by Sector, 1886 –1905 1886 – 87 1890 –91 1896 Stocks (1886) Banking Railroads Public services Manufacturing, real estate, and other companies Total stocks Bonds and other paper instruments (1887) Banking (mortgage letters) Railroads (debentures) Public services (debentures) Manufacturing, real estate, and other companies (debentures) Municipal government letters State government bonds Federal government bonds Total bonds and paper

1898

1900

1902

1905

5 12 7

22 8 7

18 6 8

15 4 5

16 5 5

9 5 2

9 5 6

4 28

64 101

25 57

14 38

8 34

4 20

10 30

1 7

2 2

2 2

2 2

4 1

3 2

2 1

5

3

2

3

6

2

3

4

1

2

1

1

0

4

1 1

1 1

2 1

7 1

5 1

15 1

24 1

1 20

2 12

3 14

2 18

1 19

4 27

6 41

s o u r c e s : Correio Paulistano and O Estado de São Paulo, various dates. n o t e s : “Manufacturing, real estate, and other companies” stocks in 1886 are three mills and an insurance company. “Manufacturing, real estate, and other companies” bonds in 1887 are sugar mills. The figures for 1890 –91 include all published stock and bond quotes, not just those quoted on the Bolsa. A significant portion of the trading took place in private investment houses. From 1895 on, all trades took place on the Bolsa. Public Services include utilities and urban transportation companies. Stocks may include separate issues by the same company. Bonds may include separate bond issues by the same company or government.

since 1884 and was the only local debtor listed on the Bolsa for fifteen years. The next city to raise money through a bond issue was the city of Santos in 1898, which apparently liked the arrangement well enough to go back for a second loan in 1902. In that year, the number of municipal bonds listed and the number of municipalities represented on the Bolsa almost doubled.62 There were eleven municipal bonds listed on the Bolsa in 1902, corresponding to seven different municipalities. Each subsequent year saw more bonds issued, and by 1905 the Bolsa listed twenty-four municipal bonds representing fifteen municipalities.63 Of the joint-stock companies that issued debentures, the public services—gas, water, and urban transport—figured most prominently. The demand for long-term loans was certainly high at these companies, for they

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required heavy capital expenditures which could not be paid back for years. Moreover, these services needed to expand with the population, meaning that as the urban areas grew so did demand for infrastructure services. After 1890, however, manufacturing and real estate development companies also began tapping the bond market for their funding. The first bond issued by a company outside the infrastructure group was for the Companhia Industrial de Sa˜o Paulo, a manufacturing firm involved in textiles, graphics, and match making. The paper manufacturing firm, the Companhia Melhoramentos de Sa˜o Paulo, issued a debenture bond in 1895.64 In 1897 an urban real estate firm which also built electrical substations to power its buildings, the Companhia Progredior, issued a bond on the Sa˜o Paulo Bolsa. While the bond market was not used extensively by industrial and other urban companies, its departure from the government and infrastructure profile of 1887 demonstrates that investors were beginning to consider funding longterm loans to new types of economic ventures. This new interest was to become an extraordinarily important avenue of business finance less than a decade later. This apparently static decade, then, was actually one of significant steps toward a mature, diversified exchange. The lack of growth in the 1890s was due to macroeconomic conditions, not to an innate failure of the marketplace. The severe recession provoked by the central government in order to stabilize foreign exchange rates had the effect of contracting the domestic economy and braking new business investment. This was reflected in the Bolsa’s inability to expand during this period, spending its time instead changing its profile to accommodate new lines of business.

The Bolsa’s Resurgence, 1906 –1920 The changes experienced by the stock and bond exchange between 1906 and 1920 were multiple and bold. There was a rapid growth in the number and expansion in types of stock and bond listings after 1906; a particularly dynamic period of expansion between 1909 and 1913; a dramatic increase in the portion of Sa˜o Paulo’s industrial capital financed through the sale of equity; and a boom in bond issues that was important to the surge of development taking place. This was a purely local phenomenon, divorced both from the influence of the Rio de Janeiro capital market and from the domination of foreign capital. It was an era of Brazilian entrepreneurship, capital, investment, growth, and diversification. The Bolsa was the locus of growth in urban industrial, commercial, and public utilities sectors for a brief but critical period in the pre-war economy. The speed with which the

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joint-stock format was being adopted for new business formation, and the proportion of capital formation that took place as a result, made a significant contribution to the modernization of the Sa˜o Paulo economy.65 The renaissance of the Sa˜o Paulo Bolsa was directly related to new macroeconomic vigor produced by government policy after 1906. The coffee boom of the 1880s and 1890s had prompted an expansion of coffee planting far beyond the existing market demand for coffee, provoking a crisis of overproduction in the coffee sector. By the turn of the century Brazilian coffee production pushed the world supply to between fifteen million and twenty million bags, compared to annual world demand of between twelve and fifteen million bags. The accumulated effect of Brazil’s overproduction in the 1890s created huge stores of unconsumed coffee by the turn of the century and kept international prices under great pressure.66 Even the inflation of the 1890s could not offset the falling international price for coffee after 1897. Overproduction placed pressure on international coffee prices, and export revenues from coffee fell at the rate of 10 percent per year from 1901 to 1904. The planters, alarmed by their falling incomes from higher exchange rates and lower demand, proposed some form of protection against further losses. The levels of visible, unabsorbed world supply of coffee were rising, and a bumper crop was predicted for 1906 that would exceed all previous levels of coffee production.67 In what is known as the Convênio de Taubaté of 1906, or the Taubaté Agreement, the governors of the states of Minas Gerais, Rio de Janeiro, and Sa˜o Paulo agreed to protect the coffee economy by purchasing and withholding stocks from the market in order to artificially guarantee a minimum price for coffee. In the end, Minas Gerais and Rio de Janeiro fell out of the pact, leaving the Sa˜o Paulo government alone to intervene in the market. This it did with great effect by purchasing excess coffee stocks and holding them in storage in order to control the world supply of coffee and support prices. The state government raised the funds to do so through foreign loans backed by a gold tax on each exported sack of coffee. In addition, the federal government instituted a fixed exchange rate that provided stability to domestic prices. By the end of 1907 more than eight million sacks of coffee were removed from the market, and by 1909 the prices of coffee began to recover.68 The valorization scheme was so successful that it remained in effect for over twentyfive years. These measures protected the income of Sa˜o Paulo’s most important economic sector and ushered in a new era of growth and prosperity.69 This new infusion of wealth in Sa˜o Paulo shook loose the recessionary policies of the turn of the century and drew entrepreneurs and investors

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chapter 4 Ta b l e 4.3 Sectoral Composition of the São Paulo Bolsa by Firms, 1905 –1917 (number of firms and share of total)

Banking Railroads Insurance Public services Textiles Other industrials Non-industrials Total

1905

1909

No. Share (%)

No. Share (%)

No.

Share (%)

No.

Share (%)

7 9 1 13 10 13 20 73

7 9 2 44 24 41 58 185

3.8 4.9 1.1 23.8 13.0 22.2 31.3 100.0

4 3 2 43 19 38 49 158

2.5 1.9 1.3 27.2 12.0 24.1 31.0 100.0

8 5 5 1 7 2 28

28.6 17.9 — 17.9 3.6 25.0 7.1 100.0

9.6 12.3 1.4 17.8 13.7 17.8 27.3 100.0

1913

1917

s o u r c e : Bolsa summary pages, O Estado de São Paulo, January 1906, January 1910, January 1914, and January 1918.

back to the market. From 1905 to 1906 alone, the number of equity-funded companies in Sa˜o Paulo rose by 25 percent. The growth in joint-stock company formations was particularly robust during the five-year period from 1909 to 1913, the year that the market peaked, and particularly dramatic for public utilities companies and urban enterprise, both industrial and commercial.70 Of all companies listed on the Bolsa by 1913, between 65 percent and 70 percent of the public utilities companies, textile firms, and other industrial and commercial firms had been founded during this booming fiveyear period. By 1913, 167 of 185 companies were public-service infrastructure, urban industrial, and commercial enterprises outside the traditional offerings of banks, railroads, and insurance companies (see Table 4.3).71 If we look at the changes to the Sa˜o Paulo economy introduced by new joint-stock company formations on the basis of their capitalization, rather than the firm size of the market, the advances of the post-1905 period become somewhat muted. This is because of the overwhelming volume of railroad capital historically raised through the sale of equity relative to all other business pursuits. While the railroads accounted for just a handful of the market listings in the 1890s and early 1900s, their capital dominated the Bolsa. Through 1909, over half of all shares in the hands of investors and between 60 percent and 70 percent of all paid-in capital listed on the Bolsa was invested in the railroad companies. These had been the most capital-hungry ventures in the early years of brokerage activity, and their aggressive expansion in the 1880s and 1890s gave them near total dominance of the market’s capital. This dominance was typical of the U.S. and British cases as well, because of the large, indivisible capital requirements and the inability to begin

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operations before construction was completed, making it impossible to use reinvested profits as a source of finance. While it is true that no sector emerged to dislodge the railroads as the largest single sector represented on the Bolsa, there are clear indications of the significant growth of the urban public service, industrial, and commercial firms after 1905. These groups together laid claim to just under 15 percent of total paid-in equity capital represented on the exchange in 1905, most of it in industrial firms. By 1909, the growth in the number of urbansector firms doubled their share of listed equity capital to 30 percent. In real terms, the capital invested in public utilities companies almost tripled from 1909 to 1913, while the capital of the industrial sector doubled. The nonindustrial companies had a three-and-a-half times growth in real equity investment. Meanwhile, the equity value of railroads and banks, the traditional companies to first use public markets for finance, stayed flat or declined as a percent of total capital in real terms. Their combined share of the market fell from 85 percent of total paid-in equity in 1905 to just 47 percent of all equity capital in 1917, while 53 percent of paid-in equity capital was invested in urban firms (see Table 4.4).72 The growth in these new business sectors was stimulated in good part by the demographic and geographic growth of Sa˜o Paulo. The coffee boom of the 1880s and 1890s had generated a local population boom by importing European laborers to work the plantations. At the same time, the seemingly unending demand for coffee had motivated planters to push out the coffee frontier into previously unsettled areas of Sa˜o Paulo.73 The population of the state had almost tripled to over two million inhabitants from the 1870s to 1900.74 An additional 700,000 immigrants flowed into Sa˜o Paulo between 1900 and 1915, most drawn by the spread of agriculture and most ending up in the interior of the state, particularly in areas of recent settlement.75 The urban centers of these new areas all demanded infrastructure services, acting as a catalyst for the formation of new utilities companies, while the growth in population settling in Sa˜o Paulo, first as laborers and later as farmers, created demand for domestic-quality goods.76 The importance of this new domestic demand to urban and industrial development, and of the use of equity capital to fund that development, is no clearer than in the example of the textile industry. This is a case where the ground gained by new joint-stock companies relative to the traditional joint-stock companies is particularly striking. The textile industry demonstrated impressive gains between 1905 and 1913.77 In 1905, there was just one Sa˜o Paulo textile firm quoted on the Bolsa, with a par value of less than

Ta b l e 4.4 Sectoral Composition of the São Paulo Bolsa by Capital, 1905 –1917 (capital in real contos and percent share) 1905

Banking Railroads Insurance Public services Textiles Other industrials Non-industrials Total

1909

1917

1913

Equity

Share (%)

Equity

Share (%)

Equity

Share (%)

Equity

Share (%)

35,634 159,614

15.6 69.9 — 3.7 0.9 8.9 0.8 100.0

27,296 160,338 807 15,255 18,053 24,434 19,667 265,851

10.3 60.3 0.3 5.7 6.8 9.2 7.3 100.0

26,282 160,871 1,595 43,962 40,135 49,045 69,645 391,533

6.7 41.1 0.4 11.2 10.3 12.5 17.8 100.0

16,122 114,663 1,389 38,919 24,023 36,847 48,386 280,351

5.8 40.9 0.5 13.9 8.6 13.1 17.2 100.0

8,548 2,142 20,333 1,928 228,200

s o u r c e : Bolsa summary pages, O Estado de São Paulo, January 1906, January 1910, January 1914, and January 1918. n o t e s : Because of the inflationary tendencies of the Brazilian economy, real values are sometimes useful to make figures comparable to capture the changes in the financial markets over time. The deflators used here are from Catão, “A New Wholesale Price Index,” and Haddad, “Growth of Brazilian Real Output.” One conto is worth 1,000 mil-réis.

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Ta b l e 4.5 Equity Finance in the Cotton Textile Industry, 1905 –1915

Year 1905 1909 1915

Total Number of number of companies São Paulo listed companies 1 9 21

18 24 41

Listed companies as % of total companies

Listed capital (contos)

Total capital (contos)

Listed capital as % of total capital

5.6% 37.5% 51.2%

2,000 17,600 42,600

29,600 46,700 81,500

6.8% 37.7% 52.3%

s o u r c e s : Bolsa summary pages, O Estado de São Paulo, January 1906, January 1910, and January 1916. Some data are drawn from Cano, Raízes da concentração industrial, table 55. n o t e : Capital is quoted in nominal terms. Cano’s figures for total companies and total capital are for 1905, 1910, and 1915.

1 percent of the Bolsa’s total paid-in equity capital value. By 1913, there were twenty-four textile firms listing equity worth 10 percent of all Sa˜o Paulo Bolsa stocks (see Table 4.4).78 More importantly, the joint-stock format gained importance against other legal forms in total textile business finance during this period. Just one cotton textile firm was publicly financed before the turn of the century, although we know of at least eighteen in existence in the state of Sa˜o Paulo up to 1905.79 The single cotton textile firm listed on the Bolsa in 1905 had equity shares worth 7 percent of all capital invested in Sa˜o Paulo’s cotton textile firms.80 By 1915, just under half of Sa˜o Paulo’s forty-one textile companies were financed through stock issues, and more than half of all capital invested in Sa˜o Paulo’s cotton textile firms was raised through the sale of stock.81 Moreover, the growth in the industry from 1905 to 1915 appears to have taken place almost entirely through the joint-stock format. Wilson Cano found that the industry grew from eighteen to forty-one firms between 1905 and 1915, a difference of twenty-three firms. My stock-market data show that twenty new joint-stock cotton textile firms were founded between 1905 and 1915 (see Table 4.5), meaning that virtually all growth in the industry was through market finance.82 It is clear that the Bolsa played a critical role in the expansion of the textile industry in Sa˜o Paulo. Because the data for industry as a whole for this period are neither as detailed nor as consistently reported as that for the cotton textile sector, we must piece together evidence on the role of equity capital in all industrial finance from a variety of sources. When we use the aggregate figures for Sa˜o Paulo industry, we find that a much smaller proportion of total industrial firms were listed on the exchange, compared to cotton textiles, but that these represented a sizable portion of total capital employed in Sa˜o Paulo’s

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industrial sector. Using Cano’s estimates of the size of the industrial sector in 1907 and my own calculations of the size of the public equity market, I found that just 1 percent of industrial firms and close to 20 percent of total Sa˜o Paulo industrial capital was represented on the Bolsa.83 In 1919, the publicly traded industrial companies still comprised just 3.1 percent of all industrial companies but now represented 52 percent of all industrial capital invested in Sa˜o Paulo.84 That 3 percent of industrial firms accounted for over half of industrial capital by 1919 gets to the very heart of the significance of the Bolsa’s contribution to industrial formation: it tended to finance medium to large industrial companies that were probably beyond the means of traditional financing avenues. Published data on the size distribution of Brazilian firms are scarce, but the 1920 industrial census captures data on this distribution for 1912. This data, compiled by Cano, shows that Brazil in 1912 was a nation of very small industrial firms. The average value of all Brazilian industrial firms in 1912 was 51 contos (about US$16,000), while the median was somewhere around 1 conto (US$320).85 Sa˜o Paulo’s sixty-four joint-stock companies that year averaged 1,324 contos of capital (US$424,000), while the median was around 1,000 contos (US$320,000).86 Just eight hundred of more than nine thousand total Brazilian industrial firms (8.4 percent) were valued at 25 contos or more of capital (25,000 mil-réis, or US$8,000).87 All of Sa˜o Paulo’s joint-stock industrial firms sat above that threshold. In fact, Sa˜o Paulo’s smallest listed industrial firm that year was worth 40 contos, and the next smallest was worth 100 contos. Clearly, the Bolsa played an important role in bringing to life the medium and large firms so important to Sa˜o Paulo’s emerging industrial base.88 One of the most striking characteristics of the Sa˜o Paulo Bolsa is that all of this capital formation was drawn from local resources. This was strictly a Sa˜o Paulo exchange listing Sa˜o Paulo companies. Rarely in the Bolsa’s history did Rio de Janeiro companies list on the Sa˜o Paulo Bolsa, or did Sa˜o Paulo firms show up on the Rio Bolsa. Sa˜o Paulo firms funded in Rio and cross-listed on the Sa˜o Paulo exchange accounted for no more than nine firms total over the entire period, and no more than four in a given year. The only significant example of the market crossover was the Companhia Docas de Santos, the Santos port-development firm. The other nearly two hundred firms listed on the Sa˜o Paulo Bolsa were Paulista firms funded by Paulista capital.89 An interesting testament to the local character of the Sa˜o Paulo (state) capital market is that an offshoot of the Sa˜o Paulo Bolsa developed in this same era. This secondary Bolsa was organized in Santos, the port city

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through which almost all of Sa˜o Paulo’s trade flowed.90 The Santos and Sa˜o Paulo markets operated in cooperation. An investor following the stock market would occasionally see an asterisk among the listings for the Sa˜o Paulo Bolsa, which indicated the price was the quote on a trade in Santos. Eventually, the trading in Santos was active enough to warrant its own column. By 1908, some eight or ten stocks of Santos-based companies and twelve or so bonds, most of them Santos municipal bonds, were quoted regularly in a separate Santos column. In 1912, “Santos” was upgraded. From that year on, it was officially called “Bolsa” in the paper and regularly listed some twenty-five stocks in addition to a handful of municipal and state bonds and all of the federal bonds. It was the company listings on the Santos exchange that revealed its own local characteristic. While some of the companies listed on the Santos exchange had originated on the Sa˜o Paulo Bolsa, and seemed to be quoted in Santos because of trades on both exchanges, at least half of the listings never appeared on the Sa˜o Paulo Bolsa at all, indicating that these were initially offered and exclusively traded through Santos. For example, the Santos listings included some companies with a statewide presence, like the Paulista and Mogiana Railroads. These were the most actively traded stocks of the era in the state of Sa˜o Paulo. The balance of the companies, however, were local enterprises with direct ties to Santos commerce. These included local textile firms, coffee warehousing firms, coffee processing companies, real estate contractors and building suppliers, and urban transportation companies. Several of these stocks appeared among the listings for both the Santos and Sa˜o Paulo Bolsas, but after awhile they only found price quotes on the Santos Bolsa. This suggests that this was an almost purely local market dedicated to companies of interest to Santos-based investors. These findings regarding the Sa˜o Paulo and Santos Bolsas, of a vibrant domestic market funding a wide range of firms, including large industrial ventures, are at odds with the historiography on Sa˜o Paulo’s development, which has traditionally argued that family business and foreign capital were so predominant that they defined Sa˜o Paulo’s great industrial push. Even recent research on the Rio de Janeiro Bolsa has found that companies there were too closely held to cultivate an investor pool, and that this tendency toward family ownership undermined the long-term importance of that exchange to business formation.91 The Sa˜o Paulo case, however, appears to demonstrate a great deal of impersonal, unrelated investment. Its exchanges managed to bring together thousands of individuals of varying fortunes to fund a broad array of firms, ranging from meatpacking to leisure spas, across the state. This does not ap-

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pear to be a case of family-controlled business formation, but little direct evidence exists to explicitly identify the owners of these 185 firms. Analysis of company directors, in Chapter 6, will show that very few big-name capitalists had wide holdings in the post-1906 period, but archival sources for business records are sporadic at best, and it was rare for shareholder lists to be published in the contemporary press.92 An indirect method to make a case for impersonal, unrelated investment is to ask whether the average person on the street had any compelling reason to risk his or her savings in this array of firms. What might investors gain by entering into this market? To look at the Bolsa from the investor’s point of view, I examined the premiums investors could expect to earn and the trading activity the Bolsa generated to develop a proxy for impersonal interest. The behavior of stock prices over time offers a first pass at the question of investor interest in the securities market.93 To that end, I calculated the relationship of a stock’s market value to its par, or face, value. Because market quotes were not reliably available for the same stocks from year to year, it is impossible to calculate annual returns to shareholders or returns to investors in the secondary market. If we were to throw out cases that lacked consecutive years’ data, the sample would be so small as to be meaningless. Therefore, I compared the market value of individual stocks in individual years against the original paid-in value. This first-pass calculation is not ideal, as it captures only the gains to the original investors in a company’s stock. Still, it shows what sorts of returns investors could expect for a given stock in a given year.94 Comparing the quoted price of a stock against its paid-in value shows that investors had a good chance at price appreciation before the war. Up to 1914, all banks traded at or above their par value and the oldest and largest bank commanded the highest premium of all.95 The two largest railroads also commanded huge premiums, anywhere from 1.2 to 2 times the par value. The banks and railroads were the blue chips of their day. While textile stocks did not trade at prices as high as these older sectors, they routinely traded at or above their par values (see Table 4.6). This exercise shows that investors had a reasonable expectation of realizing a profit on their investment in just about any sector they chose, particularly during the boom years between 1909 and 1913. The trading ratio of market to par values rose sharply after 1909 and peaked sometime between 1911 and 1912 for most sectors, corresponding to the pace of new company formations. The price premiums that stocks earned suggest that investors had a reason to be interested in the stock exchange. This interest seems to be born

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Ta b l e 4.6 Stock Trading Ratios on the São Paulo Bolsa, 1907–1917 (market price/par value) Equity shares

1907

1909

1910

1911

1912

1913

1917

Banking Railroads Public services Textiles Other industrials Non-industrials Total

1.40 1.42 1.21 1.06 .76 1.03 1.34

1.58 1.68 .85 1.07 .88 1.36 1.52

1.67 1.83 1.26 1.31 1.19 1.14 1.68

1.48 1.84 1.17 1.48 1.30 1.02 1.64

1.69 1.89 1.14 1.25 1.35 1.11 1.62

1.37 1.45 1.08 .93 1.38 1.14 1.35

1.68 1.62 .58 .39 .91 .54 1.41

s o u r c e : Bolsa summary pages and daily stock price columns, O Estado de São Paulo, January and July 1907–17.

out by stock ownership and trading data. Joint-stock company shares in circulation doubled from 1.2 million in 1905 to 2.4 million by 1913.96 The huge volume of shares that came on the market in less than a decade suggests that this was not a phenomenon of family ownership or closely held companies. Furthermore, there was an active secondary market for shares during this time period. Using published buy-bid quotes and transaction prices as a proxy for investor interest in stocks, we see that a market existed for between one-half and two-thirds of all stock issues listed in every year from 1906 through 1912. Investor interest in the market is even more pronounced when we look at the bond market. The number of bonds on the market more than doubled in number from 1905 to 1909, and nearly quadrupled again from 1909 to 1914, when the market peaked (see Table 4.7). The most striking element is the fact that all the bond market growth came from the new urban and industrial companies. A significant portion of industrial and urban commercial firms— eighteen of twenty-eight textile companies, twenty-one of fifty-one other industrial firms, and twenty-one of seventy-four nonindustrial firms—issued bonds during the period 1909 –14.97 An even greater rise in debt issued took place among the public service companies. Debenture bonds issued by water and sewer and gas and electric firms increased fivefold from 1909 to 1912. Of fifty-eight public utilities companies that traded on the exchange at some point between 1905 and the peak year of 1914, forty-six had issued debenture bonds. Two-thirds or more of all bonds had a market during this period; in 1910 and 1911 virtually every bond on the Bolsa had a buy-bid quoted in the paper.98 The figures in Table 4.7 show that of all the sectors of business activity in Sa˜o Paulo, debenture bonds were issued the most aggressively by public util-

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chapter 4 Ta b l e 4.7 Bonds of Corporate Debt by Sector, 1886 –1917

Banks Railroads Public utilities Textiles Other industrials Non-industrials Total bonds

1886

1905

1909

1914

1917

1 7 5 — — 4 17

2 1 3 1 1 1 9

2 2 6 6 3 4 23

— 2 39 16 21 18 96

— 1 38 11 14 13 77

s o u r c e s : Bolsa summary pages, Correio Paulistano, 1886; Bolsa summary pages, O Estado de São Paulo, 1905, 1909, 1914, 1917.

Ta b l e 4.8 Domestic Debt/Equity Ratios by Sector, 1909 –1914

Textiles Other industrials Non-industrials Public utilities Railroads All stocks

1909

1912

1914

.43 .17 .05 .26 .04 .16

.49 .27 .29 .84 .11 .27

.40 .40 .28 .57 .06 .24

s o u r c e : Bolsa summary pages, O Estado de São Paulo, January 1910, January 1913, January 1915. n o t e : These figures reflect domestic capital only. No foreign firms are included (all were banks at this time), nor are foreign debenture bonds issued by domestic firms. Foreign bonds were issued almost solely on the behalf of railroad companies. Total foreign debt issued for the railroads was two times the value of total domestic equity invested in these companies. The insignificant amount of railroad debt in this table is meant to simply reflect that these companies did not go to the domestic bond market for their financial needs.

ities firms and by the textile firms. Constructing rough debt/equity ratios for the entire market bears this out. Table 4.8 shows that the public-utilities sector had the highest or second highest level of indebtedness of all business sectors after 1909, followed by the textile manufacturers. These sectors consistently had two to four times the level of indebtedness of publicly traded companies as a whole. Interestingly, the ability of textile firms to issue debt eventually extended to other industrials. By 1914, they too had become more highly leveraged. Although the overall debt levels were low for publicly traded companies as a whole, they nonetheless indicate a significant change in the financing methods available through the formal capital market. Not only did these bonds represent a whole new avenue of finance to the urban industrial and infrastructure companies, most of these bonds were issued by companies which themselves were brand new. Fifteen of eighteen bonds floated by tex-

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tile companies during this period, for example, were for companies founded after 1907. In some cases, companies floated equity stock and bonds almost simultaneously.99 The same is true for the public utilities. These new urban companies were getting established one year and expanding their business in the next, all but eliminating the need to rely on the relatively slow path of reinvesting profits for their growth.

Domestic vs. Foreign Capital in Sa˜o Paulo’s Modernization Scholars have long argued that the phenomenal spurt of economic development experienced by Sa˜o Paulo and Brazil in the pre-war era was a result of the massive influx of foreign capital stimulated by the improved macroeconomic conditions after 1906.100 Without a doubt, foreign loans to finance the coffee-support program were critical to protecting agricultural income in Sa˜o Paulo. In the realm of domestic business formation, however, the cornerstone of Sa˜o Paulo’s development, my findings suggest that foreign capital played a very narrow role. Foreign capital was huge in volume and of great importance to certain sectors of the economy, but neither competed with nor supplanted the type of capital formation experienced through the Bolsa during this period. In magnitude, foreign capital loomed large. A detailed review of British investment in Latin America from 1865 to 1913 confirms that British investment in Brazil doubled between 1905 and 1913.101 The distribution of this investment was highly concentrated in just three sectors, however. Of the 132 million pounds sterling of new investment in Brazil during this period, 120 million pounds went to railways, public utilities, and government loans.102 In 1909, the year their value peaked in Sa˜o Paulo, foreign-issued railway bonds were worth almost the full value of the entire Bolsa and two times the value of the domestic equity capital invested in the railroads. In 1911, a huge Canadian urban transport and electricity conglomerate had holdings in Sa˜o Paulo valued at an estimated 65 – 80 million mil-réis.103 The full value of the domestically financed joint-stock utilities companies in Sa˜o Paulo was a mere 25 million mil-réis in that year. Foreign capital clearly dominated investment in these sectors. In addition to direct investment in business enterprise, foreign capital figured importantly in government loans. In fact, government loans were the single largest destination of funds in the history of British lending to Brazil (see Table 4.9). These loans were particularly relevant to Sa˜o Paulo’s development after 1906.104 The Sa˜o Paulo government’s decision to undertake the coffee valorization program on its own meant raising significant sums of

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chapter 4 Ta b l e 4.9 Distribution of British Investment in Brazil, 1875 –1913 (percent by sector)

Government loans Railways Public utilities Financial Raw materials Industrial and miscellaneous Total (%) Total (pounds sterling)

1875

1895

1905

1913

66 21 9 — 1

56 36 4 — 1

68 20 5 1 3

47 23 22 4 1

3 100 30,928,000

3 100 92,988,000

3 100 122,903,000

3 100 254,812,000

s o u r c e : Stone, The Composition and Distribution of British Investment, 153B.

capital.105 It raised one loan valued at close to 4 million pounds sterling by leasing the state-owned Sorocabana Railway. It raised an additional 17 million pounds sterling in 1907 and 1908 to pay for the coffee purchases. These loans clearly had general benefits to the state of the economy. It was largely the prosperity of the coffee economy after the 1906 Taubaté Conference, when the price-support plan was created, that permitted Sa˜o Paulo’s burst of development. The sheer size of foreign capital in Sa˜o Paulo has led scholars to accept its dominance over domestic finance, but there is ample room to challenge this interpretation. The industrial and utilities sectors are cases in point. Both sectors, whose development is attributed to foreign participation, actually found their financial base in the domestic capital market. The traditional story of foreign investment in industry, for example, is fed by the fact that the majority of industrial establishments in Sa˜o Paulo in 1920 were foreignowned. Most of these firms, however, were small single-proprietorships owned by permanent immigrants to Brazil, and accounted for just 14 percent of all capital invested in Sa˜o Paulo industry. This compares with the 52 percent of industrial capital raised through the sale of equity.106 There is no question that a few prominent examples of foreign industrial involvement were to be found in Brazil, but these examples were almost entirely absent from Sa˜o Paulo.107 Paulista industrial finance was, first and foremost, a domestic phenomenon, and the Bolsa was its primary vehicle. The same holds true for the public utilities sector. The huge size of the Canadian-owned Sa˜o Paulo Tramway, Light and Power Company, known to this day as “Light,” has overshadowed the fact that its investments were limited to the greater Sa˜o Paulo metropolitan area. “Light” modernized the

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capital city’s transportation to the benefit of 10 percent of the state’s population.108 The cities of the interior, however, did not gain from Light’s presence. The municipal utilities companies for Sa˜o Paulo’s secondary and tertiary cities were financed through the domestic capital market. At least forty-two separate municipalities outside the capital city raised the money for their urban improvements, including water, electricity, sewer, and gas projects through the sale of equity on the exchange. The irrefutable size and importance of foreign capital was impressive. Foreign capital electrified the city of Sa˜o Paulo, financed the extension of Sa˜o Paulo’s rail lines, and artificially lifted the region’s economy by funding the coffee price-support program. These contributions, however significant, have obscured the domestic contribution to the development process during the pre-war period. Foreign capital was overwhelming in proportion to domestic capital formation, but it was narrowly targeted and did not dominate the development of Sa˜o Paulo’s urban commercial and industrial base to the extent that has been upheld in the literature. Rather, it played a complementary or supporting role.

The Bolsa’s Contribution to Business Formation The Bolsa’s vigor disappeared after 1913, when the threat of war disrupted international trade. Announcements of company bankruptcies began to appear in the stock columns in the following year. At least one bank, three railroad lines, two public utilities companies, four textiles firms, and two other companies were pronounced failed between 1914 and 1917. Other signs made evident the waning interest in equity investment. Trading appeared to grow thin. The number of observations in any given year dwindled, while the market-to-par ratio of stock prices declined across the board (see Table 4.6).109 The daily stock price columns in the paper grew shorter, and the level of investor interest in the market was low. Fewer than one in five stocks was priced after 1914, compared to better than one in two for the years 1905 –12.110 Only bonds, the more conservative investment, continued to be regularly and actively quoted. The market contracted by some twenty-seven companies between the 1913 peak (185) and 1917 (158). This 15 percent decline in number of companies produced only a 9 percent decline in nominal paid-in capital, however, indicating that it was the smaller companies that failed.111 The failure of the Bolsa to sustain itself over the long term goes to the heart of scholars’ doubts about the importance of the Bolsa in the modern-

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ization of Brazil.112 While the post-war slump of the Bolsa most likely limited its contribution to new business development and possibly reduced Sa˜o Paulo’s overall level of economic growth after 1920, it appears that the market financed a critical mass of industrial and commercial businesses that generated economic momentum for the state. In this context, I argue that the long-term health of the institution mattered less than the long-term health of the firms that were funded because of its existence.113 In Sa˜o Paulo, the presence of a robust stock and bond exchange facilitated the formation of joint-stock companies by providing an active market for the investment in and exchange of shares, a market now known to be critical to fostering economic growth. Moreover, among the industrial companies, it appears that the Bolsa was critical in funding the very large ones that might not have otherwise been formed. Most importantly, these very large companies survived the market contraction after 1913 and were still listed on the Bolsa decades later. It does not appear, in this context, that the sustainability of the market is the crucial test. Rather, the significance of the institution to modernization would seem to be its contribution to capital formation, even if this formation occurred during an unsustained blip. The Bolsa matured considerably from its days as an informal market in the 1880s through its dramatic expansion in the early twentieth century. Because it offered large-scale finance without requiring personal connections to old money, the Bolsa significantly broadened its reach to assist new business formation beyond the traditional sectors that used equity finance, primarily banks and railroads. The wide range of new company formations shows that the Bolsa became the important institution for industrial and urban business finance. Moreover, it matured beyond equity issues to become a booming market for corporate debt by 1914; the debt listed on balance sheets was largely in the form of debenture bonds issued, quoted and traded on the Bolsa. Perhaps most impressively, it achieved all this change in record time. The Sa˜o Paulo Bolsa went from a loose association of brokers to a thriving market in less than thirty years, with most of its change occurring in the third decade. By 1914, it was an important arena for industrial formation, providing medium to large companies with initial funding through equity and expansionary funding through debt. This process of maturation and development, when placed in the context of its nearest rival, is all the more impressive. The Sa˜o Paulo Bolsa was an infant compared to the Rio de Janeiro Bolsa. Sa˜o Paulo in 1886 was an informal exchange listing a couple dozen stocks tied to basic service and physical infrastructure, while the Rio de Janeiro exchange was already a formal institution financing Rio’s young industrial sector.114 Total paid-in capital in

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1886 Sa˜o Paulo was one-third the value of the Rio exchange. In spite of its small size, however, it contributed 16 percent of total Brazilian industrial capital in 1905, as we saw earlier, and financed over half of Sa˜o Paulo’s textile firms by 1915. Rio de Janeiro’s Bolsa, by comparison, funded just fewer than one in five textile firms in the early 1900s.115 The period from 1890 to 1905, then, began with one of the most aggressive periods of business expansion in Brazilian history, which provided the impetus for the formation of a formal securities exchange in Sa˜o Paulo, and ended with the sharpest recessionary policies of the era, which acted as a brake on business formations. The boom-to-bust cycle is most starkly expressed by the fact that the same number of stocks were listed on the exchange in 1905 as in 1886. In spite of the uneven terrain of those fifteen years, there occurred a rapid and profound transformation of the Bolsa. This transformation was expressed in three major trends: the emergence of new urban and industrial firms formed as joint-stock companies, a dramatic growth in share holding, and the first uses of the bond market as a financial tool. In spite of the Bolsa’s small size in 1905, the experiences of the 1890s would leave the institution ready for a sustained economic boom that lasted from 1906 up to World War I. Several marked changes occurred in the institution, and by extension in the economy, by 1920. First, the Bolsa was party to brand new capital formation, principally among urban utilities businesses and industrial companies. Second, the Bolsa financed primarily medium-to-large companies, indicating that it directly aided in business formation that was beyond the reach of traditional kin group or community finance. By the end of World War I, joint-stock companies comprised just 3 percent of Sa˜o Paulo’s industrial firms but over half of Sa˜o Paulo’s total industrial capital. Third, the Bolsa diversified into debt issues after 1909 to the direct benefit of the new urban infrastructural and industrial companies. Finally, this was a domestic phenomenon. While foreign capital had a sizable presence in the Sa˜o Paulo economy, it did not compete with or supplant the domestic capital formation taking place in Sa˜o Paulo’s urban areas through the use of the joint-stock format. This brief, intense period in the beginning of the century gave Sa˜o Paulo the institutional framework vital to its early and rapid modernization.

Chapter 5

The Republican Revolution and the Failure of Universal Banking

The Republican government of 1890 was conscious of the implications its new business regulatory legislation would have for the Brazilian economy. It actively sought to promote business development by eliminating the imperial restrictions on domestic business formation, and promote it did. The resulting boom in new business development in the months following the regulatory reforms of January 1890 surpassed the sum total of business development that took place in the preceding forty years. The boom, or Encilhamento, led, in the case of Sa˜o Paulo, to the formation of two stock and bond exchanges, as we saw in Chapter 4. This was the happy, spontaneous result of limited liability and lower capital requirements, and became a critical institution for the state’s economic diversification and development. The irony of this outcome is that the Republican government did not foresee or try to promote stock and bond exchanges. Rather, it tried to foster the creation of a different type of financial intermediary geared toward development: the universal bank. Universal banks are banks whose charters allow them to engage in a variety of activities, from short-term commercial lending, to long-term investment and mortgage lending, to stock issuance and ownership.1 It is because of this ability that they are referred to by the name “mixed bank” as well. Commercial banks, as we saw in Chapter 2, were limited to just short-term activities and therefore tended to specialize in taking deposits, discounting bills, and offering short-term loans. Mortgage banks were likewise legally limited to real-estate loans of terms from 114

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ten to thirty years. Neither type of bank was chartered to engage in the activities of the other. The advantage of the universal or mixed bank over the commercial bank was that it held a charter that allowed it to engage in the standard activities of a commercial bank and yet was encouraged to fund long-term development projects. As part of the Republican government’s desire to promote domestic business activity, the same reforms of January 1890 that revolutionized the joint-stock format also included legislation creating universal banks that would engage in development-oriented lending to both rural and urban enterprise. The creation of universal banks committed to broad economic development was clearly the goal of this new regime, but the following decade would show that these banks utterly failed to thrive in Sa˜o Paulo, which had the most robust economy in Brazil. Just three of the dozens of new banks to form after the January 1890 reforms were universal banks, and none of them survived as banks past 1906. Creating the proper regulatory environment, then, was not sufficient to create successful financial intermediaries. The failure of universal banks illustrates the limits of government policy in legislating development. Three reasons present themselves to explain this failure. First, the government initiative was born of a revolution that introduced uncertainty into economy and polity, something the market abhors. Forming a new type of institution in the midst of such uncertainty would require that investors overcome great risk aversion. Second, while the new Republican government saw the advantages in making long-term credit available for domestic economic development, the bulk of economic activity was closely tied to international commerce and was well served by commercial banks and trading houses. Finally, and most immediately, universal banks did not form because the profits of the few universal banks that did form were far lower than those of commercial banks. This chapter explores the regulatory regime that hoped to give rise to these banks and the institutional history of the few universal banks to form to examine the possibilities and limitations of these formal financial intermediaries.

Universal Banking in Theory and in History Universal banks were relatively new to the world economy when Brazil’s government tried to introduce them in 1890. These banks emerged as an institutional innovation in the nineteenth century in response to the great capital requirements introduced by the Industrial Revolution. The first Indus-

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trial Revolution, as we saw, was largely one of invention and innovation applied to known or existing manufacturing. The classic examples are advances in energy production (the steam engine), textile production (the mule, the flying shuttle, and the power loom), and iron production (the blast furnace). These inventions and innovations worked through the economy over decades and, in the case of England, were principally financed through retained earnings. The possibilities for future invention and innovation led to scientific inquiry in which research sought to solve new problems, resulting in what is known as the second industrial revolution. This second wave of innovation and invention, which began around the middle of the nineteenth century, generated dramatic expansion in railroad building and steel production and introduced brand new industries like electricity generation and industrial chemicals. The second industrial revolution rested on research and development and created ever more complex and larger-scale technologies. This characteristic required equally large-scale capital resources. If it was increasingly difficult to finance an industrial concern out of personal savings or retained earnings in the first half of the nineteenth century, it was essentially impossible in the second half of the century. Everything was now operating on a larger scale and, in economies where production was vertically integrated from the extraction of raw materials through the production of the finished good, on a broader scope than before.2 For newly industrializing follower countries interested in developing or acquiring these industries, financial intermediation needed to take place on a much larger scale. The stock market provided one solution to this problem, as we saw in Chapter 4. Another solution was the universal bank. The most famous example of these new types of intermediaries were the German universal banks. These banks were very large, limited-liability joint-stock banks that were closely tied to industry and have been synonymous with German industrialization after 1870. While recent research calls into question their dominant position in the German financial system and their leading role in industrial finance, their reputation endures for a number of reasons.3 First, Germany’s industrial backwardness relative to Britain and France coincided with a fragmented financial system dominated by smaller, regional private banks, while the rise of larger, joint-stock banks at mid-century was involved in industrial finance. These Kreditbanken began to address the demand for credit in the growing German economy and demonstrated the advantages of large banks offering a mixture of services.4 Second, their successors, the German “great banks,” or universal banks, became important in the spurt in industrial finance after 1870. A hallmark of these

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banks was their extraordinarily close relationships to their clients, often manifested through interlocking directorates.5 In some cases, the German universal banks became the dedicated financial arms of major industrial firms. The advantages of the universal bank over the commercial bank can be grouped into the categories of scale (size) and scope (range of services).6 The first advantage, scale, refers to the fact that these banks were very large, meaning they had the financial resources required to fund the large-scale firms that derived from the modern technology of the second industrial revolution. Their size was an important factor in their ability to manage risk as well. Because these banks were joint-stock companies, they had an obligation to manage their business so as to generate a return to the savers and investors that financed the bank. This might lead to conservative lending practices and undermine their potential support to the new, risky industrial ventures that were important clients. Their huge size mitigated this potential conflict because it meant that the banks were able to maintain a diversified portfolio and therefore tended not to be overexposed in any one line of business or any single type of credit instrument.7 While these banks were not important in the early decades of German industrialization before the midnineteenth century, their size advantage made it less risky to finance the large companies born of the sophisticated late-nineteenth-century technology of the second industrial revolution.8 The second advantage these banks possessed over the more specialized commercial bank was the advantage of scope. That is, these banks offered a variety of services to their clients, from short-term and long-term loans to stock offerings, direct equity investment, oversight, and management expertise. Theory says that because universal banks concentrate many functions under one roof, they can attract and retain customers for the long term based on their ability to follow their clients through the business life cycle. In other words, the financial requirements of a very new and unproved company are different from the financial requirements of an established firm with a long track record. These banks can lend money to a young firm, invest directly in the firm by buying its equity, and influence corporate decision making by placing its directors on the board of the client business. These roles both help launch a new company and bring it to maturity, on the one hand, and lend the bank’s reputation to its client on the other. This “signaling” effect can be quite valuable to relatively new or unproven companies. It acts as a sign of faith by the established financial intermediary in the new company. Universal banks, then, can vary their offerings according to the needs of clients as they mature.9

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The long-term relationship that grows out of its ability to service clients as their financial needs change gives the universal bank, in theory, an important cost advantage over specialized banks.10 This advantage derives from the ability to economize on information costs, transaction costs, and monitoring costs. Information costs are the costs associated with collection and transmission of information on businesses that are clients of the bank. Transaction costs are the actual costs of doing business, including legal and bookkeeping costs. Monitoring costs are the costs of oversight, such as assigning bankers to client supervisory boards. Of the three, information and monitoring costs are arguably the more important because the ability to gather reliable information and enforce agreements varies widely. Good information is crucial to good decision making on the part of a bank, but obtaining reliable information on the true operational and financial state of a business is a difficult job, one that keeps fundamental research departments in modern-day investment banks busy. The close and enduring relationship between banker and business client improves both the quantity and quality of information and can lead to lower information and monitoring costs. The bank can economize by using this information across time and transactions, significantly lowering evaluation and monitoring costs. Transaction costs also benefit from this relationship because the relationship generates a mix of services of different time horizons and different costs. For example, short-term credit is associated with higher transaction costs than long-term credit because of the greater periodic need to revisit and renegotiate that financing.11 Moreover, short-term credit is used as a disciplinary means to keep a new business on a tight leash while the bank collects information and monitors progress. The bank limits its exposure to the risk involved by limiting its engagement with the client to short-term instruments. Over time, as the client matures and the bank is better informed, different financial services at longer terms may be offered. Because these need less-frequent evaluation, the costs are lower. This is good for the bottom line of the bank and, assuming the bank passes the savings on, of the client. There is a benefit to both parties, then, deriving from the close relationship. These theoretical advantages are based on observations of the German experience in the nineteenth century. German universal banks maintained extensive branch networks that allowed them to mobilize a great deal of capital from the saving public over a broad geographical area. The volume of this mobilization permitted the large-scale finance important to the technologies of the second industrial revolution. Because these technologies, like steelmaking, industrial chemicals, and electricity, were both expensive

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and very new, it was critical to Germany’s industrialization that large-scale investment finance be made available.12 The German universal banks supported this large-scale industrialization through a variety of financing mechanisms that included providing shortterm working capital to finance day-to-day operations; extending long-term loans to finance expansion; and underwriting new stock issues, in which the banks also invested. In addition, bankers became directly involved in client firms by serving on the boards of those firms or as their managers. This direct, personal involvement of bank directors in the business of client firms helped gather information, provided operational guidance, and signaled the quality of the firm to the investing public. The result, according to Charles Calomiris, was that German banks provided capital to industry at a lower cost than a unit-banking system could have.13 In spite of the theoretical and demonstrated advantages of universal banking to the financial needs of the late nineteenth century, this innovation was not as widely adopted everywhere. France and Italy, for example, employed investment banks in the promotion of industrial development at the same time as Germany, but neither as extensively nor, to judge their industrialization at the end of the nineteenth century, as effectively. While French joint-stock banks financed public works, railroads, and the reconstruction of Paris, among other projects, they also struggled with illiquidity and by 1880 had abandoned their flirtation with industrial investment.14 Italy actually hosted two German-founded, German-style universal banks, complete with the close bank– client relationships that typified the German experience.15 These banks were long thought to have played a significant role in Italy’s industrialization because their client industries typified the second industrial revolution: electricity production and distribution, industrial chemicals, engineering, and iron and steel.16 Firm-level research by Caroline Fohlin, however, has shown that while bank-affiliated industrial firms were bigger than other industrial firms, they actually invested in industrialization at a lower rate than non-affiliated firms.17 The most famous cases of industrial economies that did not adopt the universal banking format were Britain and the United States. That Britain never adopted the format, even though the format was permitted in company law, is considered by some to be a reason Britain fell behind Germany in the late nineteenth century. British commercial banks, it is charged, failed to promote or invest in the innovative technology of the second industrial revolution by not offering medium- and long-term credit to industrialists.18 Instead, industry relied on a large network of branching banks to mobilize

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short- and medium-term finance while funding long-term investment through retained earnings.19 The U.S. case is perhaps even more famous because, unlike Britain, the United States thrived industrially in the late nineteenth century with no large banks to fund its development. U.S. banking law did not rule out universal banking in the nineteenth century, but a prohibition on establishing branches that would have mobilized the savings of one region for application in another eliminated a feature essential to the rise of the German universal bank. New England approximated the German experience, as nineteenth-century industrialists founded banks to fund their own projects, but restrictions on merging and branching meant that when the capital requirements of businesses grew, banks could no longer keep up and lost their industrial finance business.20 The Glass Steagall act of 1933 prohibited universal banking outright. In spite of the prohibition, U.S. industry thrived by employing innovative banking practices and by turning to the very active stock market.21 That universal banks were not essential to industrialization in all cases does not diminish their potential power to affect structural development. Italy and France industrialized more slowly and through smaller firms than did Germany, while Britain lost its position as industrial leader. These performance issues have been related to the supply and mobilization of capital. The United States did well during this period but appears to have paid dearly for not adopting the universal bank, in the form of higher transactions costs. Calomiris’s comparison of U.S. and German banks found dramatically lower costs in Germany for important services like issuing equity because of Germany’s universal banking system compared to the restricted banking system of the United States.22 The United States was a wealthy economy even then, making the squandered resources relatively unimportant. For countries with limited resources, however, the potential cost savings and greater efficiency that derive from universal banks would be far more important. In a country like Brazil, with few resources to spare then as now, such an innovation would have and should have been particularly attractive.23

Universal Banks in Brazil Universal banks in Brazil grew out of the mortgage-banking legislation of 1864, the first to legally recognize and try to resolve the shortage of longterm credit in the Brazilian economy. As we saw in Chapter 2, the 1864 legislation established the terms and conditions of mortgage loans to create the legal framework for such credit.24 The law was passed in the wake of a bank

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crisis that had caused the government to reexamine its financial system and conclude that the supply of long-term credit was inadequate. While the legislation did not restrict mortgage lending to mortgage banks, only these specially chartered intermediaries were authorized to issue mortgage-backed notes. These notes acted much like a bond issue, redeemable at face value over the same time horizon as the loans they funded via an annual lottery. The government expected the mortgage banks to succeed because of this new means to create a long-term source of funds to match the long-term application of funds. As we saw, though, the law had little effect. No mortgage banks formed in Sa˜o Paulo, in spite of the fact that its agricultural sector was expanding to meet the demand for coffee. It took the lure of profit guarantees offered by the provincial government to stimulate the formation of a mortgage bank in Sa˜o Paulo, the Banco de Crédito Real. The profit guarantees eventually promoted long-term credit in the Sa˜o Paulo case, but they were hardly sufficient to remedy the problems of financial intermediation caused by decades of cautious, conservative government regulation. In spite of the clear growth of demand for investment capital and monetary liquidity since 1850, fueled by the revitalized export economy and the domestic economy that supported it, the policies of the Brazilian imperial government did not always favor the satisfaction of this demand. Concerned first and foremost with its ability to meet its budget obligations and maintain a stable currency, the imperial government closely regulated the ability of banks to issue banknotes. The imperial government toyed with a variety of mechanisms to oversee currency issues, swinging between restrictive and expansionary monetary policies in a see-saw pattern of legislation throughout the nineteenth century that sent confusing signals to the financial sector and stifled bank development. The crisis that finally slayed this ambivalence was the impending abolition of slavery. By the 1870s, it was clear that the aging and dwindling slave population would not be able to meet the labor needs of the growing coffee economy for long. By the 1880s, few could deny that the end to slavery was inevitable. The movement toward full abolition of slavery, which took place in 1888, meant that planters who had relied on a servile labor force would suddenly be part of an economy requiring monetary resources to meet a wage bill for the first time. Sa˜o Paulo planters had from the earliest years begun to experiment with free wage labor supplied by immigrants, but Rio de Janeiro planters were deeply reliant on slaves for their labor force. These slaves represented a physical stock of wealth that, with abolition, would soon have no value. In addition, they would have to hire immigrants and other wage laborers. The planters demanded indemnification for their losses, and they

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demanded increased liquidity so that they could pay the new wage bill. An angry and mobilized planter class called for action, forcing the imperial government to face up to its austere banking policies and provide some new credit and liquidity to the economy. The increasingly unpopular imperial government decided to placate the planters in an attempt to shore up support for its continued existence. To this end, it passed a bank-reform bill in November 1888 authorizing one last experiment with banks of issue to inject liquid resources into the economy. Banks of issue could print their own banknotes, which were redeemable at any other bank holding a similar charter and, like the notes of the early Banco do Brasil, had the full faith of the government. This meant that notes, while bearing the stamp of a particular bank, could circulate throughout the domestic economy and act as money as long as the banks met certain reserve requirements.25 By transferring the right of issue to the banks, the government was enhancing the money-making role of the banks and effectively placed the money supply under the laws of supply and demand. The significance of this reform law was that it was a departure from decades of tightly controlled money supply, thanks to a provision that extended to all joint-stock banks of a certain size the right to issue banknotes.26 These notes were convertible into currency and government bonds, could circulate freely, and were accepted at all government offices (municipal, provincial, and imperial) except for the payment of import tariffs or interest on the debt, which had to be paid in currency. To ensure their circulation and acceptability, all banks of issue were obligated to accept the banknotes of other banks of issue. The bearers of these notes had the right to demand their redemption, which would be paid 20 percent in currency and 80 percent in government bonds deposited in the Treasury by the banks to guarantee the value of their notes. The notes themselves were protected by a provision against counterfeiting and another determining the disposition of damaged notes. Finally, the law included a provision that allowed these banks of issue to extend to planters low-interest loans with three-year terms. Its provisions, then, allowed banks to more effectively use their resources to enhance the liquidity of the economy. There are signs that the imperial government was concerned that its reforms might not spark an immediate response, causing it to cut side deals to ensure the credit to agriculture the planters so desperately sought. The Banco de Crédito Real, which was already making mortgage loans and which enjoyed provincial profit guarantees, received 5,000,000$ from the national treasury in 1889, just months before the collapse of the Empire, to subsidize low-interest mortgages to the agricultural sector. The company’s

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balance sheets list these loans under an account titled “loans to agriculture at a 6 percent interest rate by means of the accord of June 28, 1889.” 27 The subsidy, held in what was called a “special portfolio,” supported nearly 9 million mil-réis in long-term mortgage loans to agriculture. This tripled the volume of long-term credit this bank had extended in the province of Sa˜o Paulo, from just under 4 million mil-réis to more than 12 million mil-réis. In economic terms these deals might have come just in time, but in political terms they were too little too late. Support for the Empire had been eroding, particularly among planters from the booming coffee-growing region, who were underrepresented in the imperial bureaucracy thanks to the lifetime appointments of sugar barons to positions of importance. The Republicans, who wanted political power to more closely reflect economic power, had gained enough strength to challenge the old regime and send the royal family back to Portugal. While the new regime differentiated itself from the imperial government in many fundamental ways, the Republicans recognized the value of this new banking legislation and did nothing to dismantle it when they took over the government. Instead, they kept the 1888 measures and added to them to dramatically widen the scope of the banking laws. One of these laws was the joint-stock company reform legislation discussed in Chapter 4. This legislation reduced the amount of capital a company had to raise in order to begin operations and absolved its investors of virtually all liability. Because banks were almost all joint-stock companies, this legislation made it significantly easier to form banks. Sa˜o Paulo’s banking sector swelled immediately after the law’s passage, with the creation of more than thirty new domestic banks, compared to just five in the 1880s.28 The second, and theoretically more important, component of the Republican banking-reform laws was the introduction of the universal bank. The universal bank in Europe was important in funding the big, expensive, modern technologies of the second industrial revolution. No such intermediary existed in Brazil, whose own financial system was still in its infancy thanks to the restrictions of the Empire. By introducing the universal bank to Brazil, the Republican government sought to invigorate the development of the domestic economy at the same time that it offered support to the traditional export sector. Part mortgage bank, part issue bank, part commercial bank, this new intermediary promised to combine all the elements of Brazil’s financial system into one powerful institution whose mission was to invest in and develop the economy. The legislation creating the new mixed banks built on the 1888 law to cast a net over a host of banking services.29 In addition to their issuing

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capacity, these new banks were permitted to engage in all short-term commercial banking operations and in medium- to long-term mortgage lending, as well as in development projects focused on infrastructure, land development, and industrial investment. In the realm of infrastructure, the regulatory law specifically mentioned as possible bank activities railroad construction, canal and road building, port improvements, labor supply development via immigration programs, and telecommunications development. Land development encompassed many types of projects, including land irrigation and drainage, the purchase and subdivision of land for housing construction, the development of worker colonies in the agricultural sector, and cattle ranching. Industrial development projects mentioned in the law included mining, construction of industrial plant, and even the purchase and operation of industrial enterprises. Moreover, the bank could engage in all of these activities for its own account or as the agent for third parties, widening the scope of developers who could benefit from this charter. In order to entice entrepreneurs to apply for this charter the government threw in several important concessions. It would cede to the bank the rights to government-owned lands, the terras devolutas, which lay within the jurisdiction of the bank for free. The bank would use this land to develop the worker colonies or to found industrial establishments of any type.30 The government would give these banks preference in the construction of railroads and other government public works. These banks would have preference in the awarding of mining development contracts within the jurisdiction of the bank. They would get preferential treatment in the awarding of government immigration and colonization contracts. Finally, these banks were granted a tax exemption on every conceivable aspect of their business development. They would pay no taxes, direct or indirect, on industrial establishments they founded or on the inputs they imported for use in “these establishments, railways, river development, mines, or other sources of production.” 31 In exchange for all these privileges, the banks had to commit to maintaining certain accounts to guarantee their funding and to promote agricultural credit. In terms of their own funding, the banks had to place their equity capital in government bonds and place these, in turn, in an account which they could not access without the permission of the government. In addition, they were to establish a quota valued at a minimum 10 percent of profits to place in another fund until it reached the value of the equity capital placed in bonds. These provisions were meant to protect the banks from failure by prohibiting them from placing their equity capital in what were seen as relatively risky ventures and by requiring them to retain a portion of

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their earnings each year as a cushion. As an additional measure, the government retained the right to examine the banks’ books in order to keep tabs on their financial health. Given the rights and responsibilities the government was granting to these institutions, it wanted to be sure to have good information on universal banking activities. In terms of funding agriculture, the banks could lend money to agriculture and its attendant industries—fertilizer, sack production, coffeeprocessing plants, to name a few—at terms of up to thirty years and at interest rates no higher than 6 percent. This was substantially lower than the maximum rate of 9 percent set for the Banco de Crédito Real in 1882. The banks once again were permitted to issue mortgage-backed notes to finance these loans, but the government offered some financial assistance as well to offset the lost profits from the lower interest earned on the loans. Specifically, the government promised to place funds in a special account that would serve to guarantee the coupon payments on the mortgage-backed notes.

Universal Banking in Sa˜o Paulo The government expected that financial entrepreneurs would respond to the incentives and form universal or mixed banks. Their hopes, however, were dashed. In spite of the appeal by the government for development institutions that would invest in agriculture and industry, only three banks out of the of more than thirty in Sa˜o Paulo responded to that appeal, one of which was already in operation and was grandfathered into the new type of development bank. Of the two new banks, the larger, the Banco Unia˜o de Sa˜o Paulo, was chartered as a bank of issue and received the right to offer broader banking services from Law 165 of January 1890.32 The second and smaller of the new banks, the Banco de Santos, was chartered as a mortgage bank under Law 169A, the law which extended the development banking rights of banks of issue to the mortgage banks. The third and final bank, which was already in existence, was the Banco de Crédito Real. By virtue of being a government-chartered mortgage bank, it was automatically extended the rights contained in Law 169A.33 The two new universal banks, the Banco de Santos and the Banco Unia˜o de Sa˜o Paulo, were both formed shortly after the declaration of the banking-reform laws. The Banco de Santos published its first monthly financial statement in December 1890.34 The bank listed its equity capital at 5 million mil-réis, all of which was declared in its Commercial Section and just a fraction of which was paid in.35 Its December balance sheet showed that the

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bank had already attracted more than 66,000 mil-réis in deposits and had accepted over 1 million mil-réis worth of collateral for guaranteed lines of credit. It had discounted 500,000 mil-réis of commercial paper, had extended another 500,000 in short-term loans, and had made long-term urban and rural mortgage loans worth 250,000 mil-réis. The Banco Unia˜o de Sa˜o Paulo formed even sooner and was much larger than the Banco de Santos. It received its charter in April 1890 and published its first balance sheet to reflect June’s operations. This bank was worth almost 30 million mil-réis in June, five times larger than the Banco de Santos, and had doubled to 65 million mil-réis in total assets by the end of the year. It had 24 million mil-réis in equity capital, 30 percent of which was paid in by year’s end, had discounted almost 8 million mil-réis in commercial paper, and extended another 7 million in short-term loans. It had made more than 3 million mil-réis in urban and rural mortgage loans and had acquired industrial assets worth more than 2 million mil-réis. The Banco de Crédito Real, as we know, dated back to 1882 and was grandfathered in to the universal banking business, but it had already experienced a diversification and expansion before the passage of this new law. We saw earlier that the bank had been granted a 5 million mil-réis subsidy in June 1889 to triple its long-term lending to agriculture. At some point before December 1889 the bank also created a new commercial banking portfolio. Under the laws at the time, when it was designated a mortgage bank, the bank theoretically could not engage in commercial banking activities and in fact it did not. The bank’s commercial portfolio was a mere shell that set a level of capitalization. Still, its formation was unusual in that the new law that both permitted and promoted commercial portfolios as a perquisite of the new format was not publicly decreed until January 1890. This suggests that the directors of the bank had some advance notice and implicit approval for the move. With the announcement of the bank reform, the Banco de Crédito Real (BCR) quickly moved to acquire an existing commercial bank to fill its commercial portfolio. The acquired company was the Banco Comercial de Sa˜o Paulo, founded in 1886. The Banco Comercial had 2 million mil-réis in equity shares outstanding at the time of the acquisition. These shares were swapped for shares in the Crédito Real’s commercial portfolio, which floated an additional 3 million mil-réis in new stock for a total portfolio capitalization of 5 million mil-réis. As a result, the BCR doubled in size from its original 5 million mil-réis in equity capital invested in the mortgage portfolio. On top of these 10 million in equity shares outstanding, the bank enjoyed

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Ta b l e 5.1 Universal and Commercial Bank Assets by Portfolio, 31 December 1890 (millions of nominal mil-réis)

Portfolio Mortgage Commercial Industrial Issue Other Total

Banco de Crédito Real

Banco União de São Paulo

15.0 9.0

2.3 37.5 2.7 9.4

.07 6.30 .01

51.9

6.40

9.4 33.4

Banco de Santos

Total— Universal banks 17.3 52.8 2.7 9.4 9.4 91.7

Total— Commercial banks 96.3

96.3

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, January 1891. n o t e : Assets are net of clearinghouse accounts. These accounts represent third-party transactions and are offset by equal entries on both sides of the balance sheet. They do not represent credit creation by the banks.

the use of the 5 million mil-réis subsidy from the national treasury. As a result of this dramatic expansion, the bank grew from about 30 million milréis in total assets in 1888 to 65 million mil-réis in total assets after its acquisition of the Banco Comercial in 1890. Table 5.1 demonstrates that these three banks significantly contributed to the banking assets in the Sa˜o Paulo economy as a direct result of the bank reform. Together they were worth almost 92 million mil-réis in net assets. The value of the commercial banking sector, included in the table for comparative purposes, was worth 96 million mil-réis in that same year. We can see in the last two columns the direct comparison of commercial assets. In this short-term category the universal banks contributed almost 53 million mil-réis compared to the commercial banks’ 96 million. Moreover, the universal banks were the only participants in the other portfolio categories. Their creation, then, contributed significantly to real capital formation in Sa˜o Paulo. The reason that these banks were so big at their inception was probably due to the high profile of their founders, men of great stature in the Sa˜o Paulo business community who promised the ability to generate credible connections between bank and non-bank business. Two of the three Sa˜o Paulo universal banks were founded and managed by some of the most illustrious names in Sa˜o Paulo, many of them bearing titles of nobility dating back to their service (usually monetary) to the Empire, and most of them with diversified economic interests.36 These men had careers that involved them in coffee planting, the principal source of their wealth, but also in stock trading, banking, and industrial pursuits. This broad web of connections is a characteristic typically attributed to universal banks, which

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are considered to have an advantage over their commercial banking counterparts for their ability to cultivate superior inside information through the mechanism of interlocking directorates. Both the Banco de Crédito Real and the Banco Unia˜o de Sa˜o Paulo had such links to multiple Sa˜o Paulo businesses. The Banco de Crédito Real had important connections to the Sa˜o Paulo economy from the moment it was formed. Its founder and president, Francisco A. Dutra Rodrigues, was also the president of the urban transport company Companhia Carris de Ferro de Sa˜o Paulo a Santo Amaro.37 Its second president, Antônio Proost Rodovalho, was a shareholder in the Paulista Railroad Company and the Mogiana Railroad, manager of the Sa˜o Paulo affiliate of the Banco do Brasil, agent for the Banco Comercial de Braga, a Portuguese bank, founder of the Banco Comercial, and director of the Ituana Railroad in 1886.38 By 1891, Rodovalho had founded the Companhia Melhoramentos de Sa˜o Paulo and the Companhia Industrial Rodovalho, and held the presidency of the Companhia Cantareira e Esgotos, which had monopoly rights on the city of Sa˜o Paulo’s water and sewer business. By the mid-1890s, he was a director of the Companhia de Tecidos Anhaia Fabril textile factory. Domingos Sertório, who served on the fiscal council, founded an electric company and served on the fiscal council of the Companhia Carris de Ferro de Sa˜o Paulo, an urban transport company.39 The bank’s manager, José Duarte Rodrigues, was also a director of the Companhia Carris de Ferro de Sa˜o Paulo, as well as a director of the Associaça˜o Comercial and the Banco Comercial de Sa˜o Paulo. Joaquim Egydio de Souza Aranha (Marquês de Três Rios), an important shareholder in the Banco de Crédito Real, was a director of the Companhia Central Paulista, a coffee-processing firm, as well as a director of most of the railroads.40 The links between the Banco Unia˜o de Sa˜o Paulo and the Paulista economy were equally broad. The bank’s founder and president, Antônio de Lacerda Franco, was a director of the Sa˜o Paulo Commercial Association, the Paulista Railroad, and the Companhia Telefônica de Sa˜o Paulo.41 The manager of the bank’s construction and industrial portfolio, Antônio Paes de Barros (Bara˜o de Piracicaba), was one of the original creditors and director of the Ituana Railway, as well as a director of the Companhia Melhoramentos de Sa˜o Paulo (paper), the Companhia Central Paulista (coffee processing), the Paulista Railway, and a shareholder in the Sa˜o Luís textile factory.42 Three other directors of the Banco Unia˜o de Sa˜o Paulo served as directors of the Companhia Mecânica e Importadora, which imported and constructed machinery for agricultural use and was the single most important

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Ta b l e 5.2 Composition of Universal Bank Portfolios, 1890 –1904 (nominal mil-réis, percent of total assets) Bank

Portfolio

Banco de Crédito Real

total assets mortgage commercial total assets mortgage commercial construction and industrial issue total assets mortgage commercial construction

Banco União de São Paulo

Banco de Santos

1890

1895

1898

1900

1904

65.9 mm 83.7% 16.3% 68.7 mm 10.2% 69.4%

87.7 mm 88.6% 11.4% 99.1 mm 19.0% 50.2%

93.8 mm 87.9% 12.1% 54.5 mm 25.4% 35.6%

128.3 mm 94.7% 5.3% 48.7 mm 25.5% 28.0%

81.6 mm 93.8% 6.2% 13.8 mm 4.6% 26.9%

6.6% 13.7% 6.6 mm 3.7% 96.1% 0.2%

20.7% 10.1% 6.3 mm 3.4% 96.6% —

39.0% — 10.7 mm 3.9% 96.1% —

46.5% — — — — —

68.4% — — — — —

s o u r c e : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e : The Banco de Santos disappeared after 1899.

machinery manufacturer in Sa˜o Paulo.43 One of these directors and his shareholder brother, nephews of Antônio Paes de Barros, were directors of the textile factory Companhia de Tecidos Anhaia Fabril.44 In addition to these connections via shareholders, the Banco Unia˜o de Sa˜o Paulo itself owned the Votorantim textile factory. If the existence of interlocking directorates is an important characteristic of the universal bank, the defining characteristic is the broad range of services offered by the bank. Universal banks typically provide their clients with diversified activities running the spectrum from short-term commercial credit to long-term loans, including loans to industry and commercial agriculture development. In addition, some universal banks were granted the right to issue banknotes before the advent of central banking. All these activities were present in Sa˜o Paulo after the 1890 bank reform, though not all three universal banks engaged in them (see Table 5.2). The three universal or mixed banks were required by their special charters to maintain separate portfolios for each branch of their banking operations, and were not allowed to use funds from one portfolio to finance operations in another. The purpose behind this provision was to match up the sources of funds with their uses, so that banks with surplus resources in shortterm deposits, for example, would not be tempted to apply those funds to long-term loans. In other words, the banks were authorized to engage in a spectrum of activities, but were not given free reign to pool resources as they saw fit. This provision frustrated bankers, who occasionally spoke out in the

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press to say that if only they could manage their funds at will they would be performing far better. For the historian, however, these firewalls provide good information on the activities of the universal banks.

The Issue Portfolio The legislation creating banks of issue was designed to alleviate the problem of liquidity, a problem that was highly visible in Rio de Janeiro. A decree published in March 1890 setting the issue capacity of the Rio-based banks Banco do Brasil and Banco Nacional do Brasil cited “the immediate and inevitable need to broadly amplify the currency stock, given the extreme tension of the money market” when it authorized a total currency issue of 100 million mil-réis to be undertaken by three Rio de Janeiro banks.45 A month earlier, the Correio Paulistano had leaked the news that “by dispatch of February 15, the authorization was conceded to Antônio de Lacerda Franco and Joa˜o Baptista de Mello e Oliveira to found the regional bank for Sa˜o Paulo and Goyaz, with a maximum capitalization of 60.000:000$ and issue up to 24.000:000$, backed by government bonds.” 46 This authorization for the Banco Unia˜o de Sa˜o Paulo came in April, when the bank’s statues were formally approved. It was the only universal bank with the right to issue currency in the state of Sa˜o Paulo. These banknotes were to be considered identical to federal currency, “enjoying the privileges conferred on the notes of the State.” 47 By 1891, the Banco Unia˜o de Sa˜o Paulo had issued 10 million mil-réis in banknotes. As was specified in the statutes, these notes were fully backed by government bonds deposited with the national treasury, and were to be accepted by all government agencies in the states of Sa˜o Paulo and Goiás. Notes originating in one of the other banks’ regions were to be exchanged by the Banco Unia˜o to guarantee the acceptability of all issued currency.48 In 1891, however, newspaper editorials complained that the bank’s notes were not being accepted by the government, which by law had the obligation to accept them.49 “There are more than a few cases of legally circulating banknotes being refused in government offices,” a newspaper reported, even though the bank which “earlier enjoyed the greatest confidence and most vast trust of the commercial establishment” had “done nothing to diminish its honor and prestige.” 50 The regional banks rallied around the Banco Unia˜o, sending letters of protest to the treasury minister and agreeing among themselves to continue to accept the banknotes. Their outrage centered on the fact that the minister, by sanctioning the freeze on Banco Unia˜o de Sa˜o Paulo notes,

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cast a shadow on the good reputation of a sound bank that had complied with the government’s own rules and regulations. The difficulty faced by the Sa˜o Paulo bank in retrospect looks like a knee-jerk reaction to a problem in the nation’s capital, rather than to conditions in the regions served by the Banco Unia˜o Sa˜o Paulo. The problem, it seems, was that the new monetary issues were met with great demand in Rio de Janeiro, making the enhanced money supply a key ingredient in the 1890 –92 Encilhamento. Banks in Rio had issued notes far beyond their legal limits in an attempt to satiate pent-up demand.51 The Banco Unia˜o, however, did not. Although it had the right to issue 24,000,000 mil-réis, the Banco Unia˜o de Sa˜o Paulo issued just 10,000:000 mil-réis. These notes represented just 2 percent of the total currency stock and experienced no annual growth in volume from 1890 to 1894, the years in which the bank held right to issue. Total currency stock, by way of comparison, grew at between 10 percent and 36 percent per year during the same period.52 Clearly the Banco Unia˜o was not the culprit in this inflation. Refusing the notes of the banks of issue was a frightened response by a government that some historians have accused of implementing revolutionary reforms without creating appropriate controls.53 The rapid expansion of the currency stock resulted in price inflation and exchange rate devaluation that caused the government to change course, once again, in what was a long and rocky history of monetary policy. New banknote issues were halted in 1891, and in 1893 the federal government consolidated the right of issue under just one bank, the Rio-based Banco da República. It revoked the Banco Unia˜o’s right that same year and spent the following years negotiating a way to retire those notes from circulation by 1896.54 In spite of the snub, the Banco Unia˜o’s experience raises an interesting point about Sa˜o Paulo’s economic conditions at the time. The fact that the bank of issue did not rush to issue banknotes suggests that rather than experiencing a crisis of liquidity, the booming Sa˜o Paulo coffee economy was generating a surplus that provided capital for investment in agricultural expansion and non-agricultural activities.55 Indeed, the Banco Unia˜o’s participation in currency issuance was clearly limited and never defined the bank, as we will see below.

The Commercial Portfolio While the motivation behind the Banco Unia˜o de Sa˜o Paulo was to create a regional bank of issue, the bank’s business was far more concentrated in its

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chapter 5 Ta b l e 5.3 Application of Earning Assets in Commercial Portfolios, 1890 –1904 (nominal mil-réis, percent of total assets)

Banco de Crédito Real Stocks, bonds Loans Discounted paper Banco União de São Paulo Stocks, bonds Loans Discounted paper Banco de Santos Stocks, bonds Loans Discounted paper

1890

1895

1898

5.0 mm 12.6% 56.9% 30.5% 17.3 mm

6.7 mm 46.0% 39.5% 14.5% 8.9 mm

6.8 mm 41.8% 47.1% 11.1% 7.2 mm

13.3% 40.7% 46.0% 1.0 mm — 52.3% 47.6%

18.7% 60.4% 20.8% 2.4 mm 8.2% 66.6% 25.1%

24.5% 51.9% 23.6% 4.5 mm 2.7% 31.7% 65.6%

1900

1904

6.2 mm

1.5 mm

30.4% 51.7% 17.9%

82.0% 16.9% 1.1%

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : Earning assets are those which earn the principal source of income for the bank—interest on the application of its funds. Other assets include vault cash, property plant and equipment, and third-party accounts. These types of assets do not create credit, nor do they earn interest for the bank. The Banco de Santos has no records after June 1899. The Banco de Crédito Real lists 6.8 mm mil-réis in commercial assets in 1900 and 5.1 mm in 1904, but these are lumped together in a single account called “Diversos.” The “Diversos” account in 1904 has an explanatory note that reads: “Diverse accounts of the Commercial Portfolio in liquidation.”

commercial portfolio. The commercial portfolio was included in the bank reform law of 1890 as a sort of inducement by the government to get financial entrepreneurs to form universal banks. Commercial banking was a proven winner, attracting capital and a strong track record in spite of restrictive imperial regulatory legislation. In fact, all three banks quickly established commercial banking portfolios. Still, their profiles varied. As Table 5.2 shows, the commercial portfolio initially dominated the Banco Unia˜o assets but steadily declined over time; always comprised the bulk of the Banco de Santos’s assets; and never accounted for much of the Banco de Crédito Real’s business, in spite of the fact that the bank had gone out and acquired an existing commercial bank expressly to develop this portfolio. Commercial portfolios of universal banks concentrated on credit creation through three types of activities: they invested in stocks and bonds, made short-term loans, and discounted commercial paper. The universal banks were no different from specialized commercial banks in this regard. Their commercial portfolios looked just like the balance sheets of the specialized banks and reveal that short-term loans and discounted commercial paper dominated their commercial lending in the Republican period, just as they had dominated the activities of the commercial banks under the Empire (see Table 5.3).

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Interestingly, all three universal banks invested some portion of their commercial assets in stocks and bonds (valores, fundos, aço˜es, debentures). While the significance of these investments to their commercial portfolio varied from a small application of resources on the part of the Banco de Santos to a rather large commitment by the Banco Unia˜o de Santos and Banco de Crédito Real, this was a departure from the normal commercial banking practices under the Empire. Back then, just two of the nine commercial banks invested in stocks and bonds. This might represent a reaction to the stock and bond market boom that resulted from liberalized joint-stock regulation under the new Republican government but for the fact that few of the commercial banks in the post-1890 period similarly invested their funds (see Chapter 6, Table 6.5). While we have no records to indicate in which companies these banks invested, and therefore cannot tell if client companies were the recipients of these funds, we do know that the universal banks invested in company stocks and company and government bonds at a far higher rate than the commercial banks after 1890. In this way, they look like their European counterparts.

The Industrial/Construction Portfolio If the commercial portfolio was offered to the universal banks as a perquisite intended to lure financial entrepreneurs to the new format, the long-term investment portfolios were the raison d’être for the banking reform law. Two of the three mixed banks, the Banco de Santos and the Banco Unia˜o de Sa˜o Paulo, had portfolios containing assets dedicated to construction or industrial pursuits (see Table 5.2). This portfolio was not of much importance to the Banco de Santos, where it contributed less than 1 percent of the bank’s assets and was dropped from the books after just a couple of years, but the construction/industrial portfolio of the Banco Unia˜o de Sa˜o Paulo was an important part of the bank’s business. As seen in Table 5.2, this portfolio grew to account for a significant portion of the bank’s assets in percentage terms; worth just 7 percent of the bank’s assets in 1890, the industrial portfolio grew to account for almost half of total assets by the turn of the century and two-thirds by 1904. The assets in this portfolio were worth over 12 million mil-réis in 1891 and alone would have constituted a fair-sized bank (see Table 5.4).56 This portfolio was comparable in size to the Banco Mercantil de Santos and was significantly larger than most of the other newly established commercial banks.57 The Banco Unia˜o de Sa˜o Paulo’s construction/industrial portfolio was developed immediately after the bank’s incorporation. The bank acquired

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chapter 5 Ta b l e 5.4 Banco União de São Paulo Construction and Industrial Portfolio, 1891–1906 (nominal mil-réis)

Urban loans Real estate owned by bank Factories owned by bank Miscellaneous C&I accounts Line of credit to Votorantim Factory Total C&I portfolio

1891

1895

1900

1906

6,234,974 3,466,401 1,571,053 746,421

— 5,898,445 5,660,438 1,647,353

— 6,671,225 6,749,688 2,040,726

— 344,571 5,819,950 255,447

— 12,018,849

— 13,206,236

— 15,461,639

3,196,520 9,583,488

s o u r c e s : Banco União de São Paulo balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : The total asset figure is net of the clearinghouse section of the construction and industry portfolio. See note to Table 5.3.

the Companhia Melhoramentos de Sa˜o Paulo, a real estate development company unrelated to the paper company formed in the following year and bearing the same name, the same month in which it was formally incorporated. This Companhia Melhoramentos bought lands and buildings, undertook contracts for public works and private buildings, financed third-party construction, and sold undeveloped properties.58 Just months later, in July, the bank announced plans to mount a flour mill for the capital city, create a shoe factory for mass sales, and a acquire factory for production of cotton and wool cloth.59 It had already ordered equipment for the first two and had identified a candidate for the third. This company, the Fábrica Votorantim, was a textile manufacturer that was about to fail when bought by the bank. By 1917, Votorantim was the second largest mill in Sa˜o Paulo, and today it is one of the largest industrial conglomerates in Brazil. The significant expansion of the Banco Unia˜o de Sa˜o Paulo’s construction and industrial assets represented a real foray into manufacturing and real estate development. The investments of the Banco Unia˜o’s construction and industrial portfolio revolved around the development of real property in urban settings during the first years.60 As Table 5.4 shows, for the first five years of the Banco Unia˜o de Sa˜o Paulo’s existence, the bulk of the earning assets in the construction and industrial portfolio were dedicated to appraisals and urban lending.61 After 1895, however, the lending business of the portfolio gave way to the ownership of buildings and factories. Clearly, the urban loans had now become physical plant. It appears that the bank’s two major investments were complementary in the end. The real estate development business was geared in large part toward building up the industrial base. The ebb and flow of these investments in real estate and industrial devel-

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opment closely follow the development of the Sa˜o Paulo economy in the 1890s. Research by a Brazilian scholar into the particular manifestation of the Encilhamento in Sa˜o Paulo has revealed that the majority of new businesses formed in the 1889 –91 period were concentrated in three main areas: finance (banking), export/import trade, and real estate (brokerage and construction).62 The visual manifestation of the boom was the physical expansion of the city. This outward expansion, begun around 1890, is reflected in the Banco Unia˜o’s books, both in the categories of urban loans and in the buildings owned by the bank. Clearly, the bank was dedicating significant resources to urban real estate development. Just as the early investment in real estate mimicked the general real estate speculation during Sa˜o Paulo’s Encilhamento, so did the growth in factorybuilding ownership reflect the growing importance of industry to the Sa˜o Paulo economy during the 1890s and early 1900s. The representation of factory buildings on the Banco Unia˜o’s balance sheets demonstrates that the bank was, indeed, involved in industrial investment in the most basic of manners. While other banks were directly linked to industry only through the investments in shares of company stock declared on their balance sheets, the Banco Unia˜o was increasingly investing in industrial construction over time. By 1900, the value of that investment had grown to almost 7 million mil-réis. This represented about US$1.3 million, compared to about US$500,000 in 1891. No other bank of the time demonstrated a similar level of investment in the industrial sector.

The Mortgage Portfolio Easily the most important portfolio of the universal banks in terms of asset size and direct relevance to the Sa˜o Paulo economy was the mortgage portfolio, which addressed the demand for both rural and urban long-term credit. Mortgage loans, as we saw earlier, had been formalized by Law 1237 of 1864, and while subsequent laws tweaked the regulation here and there its core had undergone little institutional change. Mortgage banks, for example, always needed government approval to form and operate. This was true even after that stipulation had been dropped for most companies, including commercial banks, in the joint-stock company reform legislation of 1882.63 The 1888 bank-reform legislation added new inducements to the mortgage banking business, such as government financial aid to support lowinterest loans to agriculture, but did not change the core regulations. Even the Republican banking reforms based their mortgage provisions on the 1864 law.64

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Together, these laws determined that banks could lend money against real property only, which included land, tools, and machines belonging to urban and rural real estate; animals belonging to agricultural property; processing mills and their machines; and railroads.65 Only transferable properties could be mortgaged, and properties owned in common could not be mortgaged in full without the consent of all the owners. Each owner, however, could mortgage his part, as long as the property was divisible. Mortgages included any and all improvements on the land, including pending harvests, and rental properties. Mortgage loans were limited to half the value of rural properties and two-thirds the value of urban properties and could be established for terms ranging from ten up to fifty years.66 Mortgages were to be repaid via annual installments, which were to include the principal, interest, and a commission to the bank. It was up to each individual bank to determine the specific rates and terms of the loans, and to define the territorial boundaries to be served by that banking company. Of the three mixed banks, mortgage lending was most important to the veteran Banco de Crédito Real. The Banco de Crédito Real’s mortgage portfolio always dominated the bank’s total asset value, ranging from 84 percent of total assets in 1890 to around 94 percent after 1900.67 This was without a doubt the premier mortgage bank in Sa˜o Paulo (see Table 5.2). The Banco Unia˜o de Sa˜o Paulo seriously engaged in mortgage banking for some period of time but never grew the portfolio to become its dominant business. Its mortgage portfolio increased from 10 percent of bank assets in 1890 to 25 percent of assets in 1900, before falling to 5 percent in 1904 (Table 5.2). At no point in the Banco de Santos’s brief history did it dedicate more than 6 percent of its assets to mortgage banking, nor did it ever contribute more than the equivalent of a few hundred thousand dollars to the mortgage banking business, while its counterparts were contributing millions.68 The law did not forbid commercial banks from engaging in mortgage lending, but did create a special funding vehicle—mortgage-backed notes— to help fund the banks specially chartered as mortgage banks by the government. As discussed earlier, these notes allowed banks to issue liquid, transferable, interest-earning notes to the public up to the amount of mortgage loans outstanding.69 These notes were nominative or bearer notes, meaning that they could either be issued to a specific person or “to the bearer.” Both types were fully transferable—nominative notes by virtue of a simple endorsement—and acted as a form of equity in the mortgage portfolio. That is, the notes did not represent a direct claim on the property securing the mortgage but rather represented claims on the liquid assets of the bank’s

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mortgage portfolio. These notes, which were issued for 100 mil-réis each, could serve to raise money for the bank, which was then lent to customers, or could be issued directly to the customers themselves to constitute the mortgage. This latter option left it to the mortgage holder to trade the notes on the market in order to obtain cash for their needs. Brazilian investors, then, could invest in the mortgage portfolio of the bank for a fixed dividend, and the bank could raise long-term funds to back the long-term loans. This form of participation in the credit business apparently held an appeal to Paulistas, for price quotes for these mortgage notes appeared on the daily summaries of the Sa˜o Paulo Bolsa, indicating that they were regularly sought by investors for years. The mortgage-backed notes were priced at half the customary price for company stock, which was almost always issued at 200$ per share, making them more accessible to small investors. Since these notes carried a guaranteed 6 percent to 8 percent interest rate on their face or “par” value, depending on the bank, holders of these notes could reasonably expect annual payments of 6 to 8 mil-réis regardless of the note’s market price. In addition, the notes were retired at their par value through an annual lottery, meaning an investor did not have to hold the notes to maturity to recoup the original investment.70 The only risk to the investor was that the bank might fail and therefore be unable to pay off note holders. Even there, however, note holders had an advantage. First, the issuing banks were required to keep a separate funded account to guarantee the annual interest and retirement payments on the notes, and second, note holders stood ahead of stock holders in line for claims on assets in case of bankruptcy. In addition to these guarantees, the Banco de Crédito Real’s mortgage-backed notes were backed by a 6 percent interest rate guarantee from the Sa˜o Paulo government.71 These notes were an important innovation in an economy that had had almost no mechanisms for raising long-term funds to back long-term credit. The shortage of local long-term funds to back local long-term obligations hampered the mortgage market in the western United States in the nineteenth century.72 There, the principal source of mortgage funds came from Eastern investors who used loan agents to identify potential borrowers in other regions of the country. The reliance on external sources of funds, and the need to monitor distant loan agents, raised the costs and hence the burden of mortgage borrowing outside of the East. The absence of an institutional channel through which funds could be transferred from areas of surplus to areas of shortage meant that funds flowed with difficulty and at an increased cost, to the frustration and outrage of Western borrowers.73

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Mortgage lending in nineteenth-century France experienced impediments similar to those of the U.S. West. The financial institutions that sought to lend money at the long term using land as collateral failed in the first half of the century, unable to thrive in the atmosphere of political and economic instability. A government-backed solution, the Crédit Foncier, succeeded in becoming an important mortgage lender in the second half of the century, particularly dominating the Paris market.74 It was largely absent, however, from the rural mortgage market. Philip Hoffman, Gilles Postel-Vinay, and Jean-Laurent Rosenthal attribute this absence to impediments to distance banking similar to the U.S. West’s experience.75 That is, the Crédit Foncier did not have personnel or branches in the field to screen rural loan applicants. This informational disadvantage meant that almost all rural credit remained the province of notaries, who for centuries had acted as financial intermediaries. Rural loans from rural funds that relied on personal intermediation meant that these loans were limited in size 76 Brazilian mortgage-backed notes eliminated the mismatch between lenders and borrowers evident in the U.S. West and broke the size constraints on loans evident in the French countryside, but this innovation was not without its problems. Sa˜o Paulo lenders were not geographically diversified, given the regional scope of the market, so their mortgage portfolios were not buffered against risk. Conditions affecting one borrower, like a drop in export prices or poor harvest due to frost, would affect all borrowers.77 This sort of vulnerability meant that the investors could react negatively to market news and affect the ability of lenders to issue new rounds of paper. Moreover, property laws of the era made it very difficult for banks to foreclose, for they prohibited the repossession of any part of an estate (tools, machinery, land) if doing so diminished the productivity of the entire estate. This sort of limitation made banks cautious and most likely made investors in the mortgage notes wary as well.78 In spite of these limitations, the balance sheets of the three universal banks’ mortgage portfolios show that long-term credit was more important than short-term credit and that rural credit dominated over urban credit. In fact, the Banco de Crédito Real was the only one of the three that dealt in both short- and long-term agricultural credit, and it stopped making shortterm, collateralized loans after 1892. The other two banks applied their assets solely to long-term credits. The Banco Unia˜o de Sa˜o Paulo, a significant participant, used its mortgage portfolio exclusively for loans on rural properties.79 The Banco de Santos, the smallest of the three lenders, issued mortgages exclusively on urban properties. Brazilian mortgage banks, then, went where the French bank feared to tread.

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Ta b l e 5.5 Volume of Mortgage Loans Outstanding, 1890 –1905 (nominal mil-réis, percent of total assets)

Banco de Crédito Real % of total assets Banco União de São Paulo % of total assets Banco de Santos % of total assets Banco Construtor e Agrícola % of total assets Banco de Piracicaba % of total assets Banco de Ribeirão Preto % of total assets Banco União de São Carlos % of total assets

1890

1892

1895

1900

1905

13,263,211$ 20.1

16,255,816$ 21.0

18,814,418$ 21.4

26,463,768$ 20.6

8,152,221$ 15.0

3,050,800$ 4.4 66,870$ 1.0

10,600,151$ 9.6 179,671$ 1.4

5,304,483$ 5.4 58,376$ 0.9

2,444,210$ 5.0

181,738$ 1.6

2,214,186$ 10.4

2,821,015$ 10.8 377,614$ 9.5

1,427,106$ 9.2 374,956$ 7.8 14,094$ a 1.0

213,804$ 9.0

1,144,514$ b 9.9

2,643,582$ c 13.7

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : The banks in italics were chartered as mortgage banks. The others were commercial banks. Banco de Crédito Real lending is predominantly rural and some urban; Banco União de São Paulo lending is rural and urban; Santos is urban; BCA is rural and urban; Piracicaba is both rural and urban; BUSC is rural and; Ribeirão Preto is unspecified as to rural or urban. a Figures are unspecified as to year. b Total is for the year 1894. c Total is for the year 1899.

Even some of Sa˜o Paulo’s commercial banks engaged in mortgage lending. There was no legal prohibition against such lending, since these banks did not issue the mortgage-backed notes to fund their mortgage loans, but long-term loans would be inherently risky for commercial banks because their available funds were all from short-term sources. This imbalance between sources of funds (primarily demand deposits) and uses (the terms of loans) suggests that these mortgages had to have been of the short-term variety. We have no way of determining this, as the banks’ balance sheets refer simply to “rural mortgages” or “urban mortgages.” We can tell, however, that several commercial banks listed rural and urban mortgages among their assets. As Table 5.5 shows, for some of these banks these loans were a significant portion of their assets, putting to shame the meager lending practices of the universal bank, Banco de Santos. (See Chapter 6 for more on these banks and their activities.) The volume of mortgage lending at the large mortgage banks fell off precipitously after the turn of the century. As Table 5.2 demonstrated, with the

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exception of the Banco de Crédito Real, mortgage banking never monopolized the operations of any bank. The Banco Unia˜o de Sa˜o Paulo did grow the percentage of its assets dedicated to the mortgage business over time, but it was getting out of the business altogether by 1904. The number of banks offering mortgage loans and the value of loans outstanding fell by half from 1900 to 1905.80 Worse yet, the largest of these two banks, the Banco de Crédito Real, accounted for almost all of that mortgage credit and it closed its doors by the end of 1905. Reports of the Banco de Crédito Real’s failure spoke of disarray of the bank, and hence of agricultural credit, in the last months of 1905.81 It seems that a series of bad loans over the years had caused the bank to come into possession of a number of plantations. One report listed seventeen separate plantations under the ownership of the Banco de Crédito Real, and another mentioned fifty rural properties under the direction of the bank.82 Rather than just lend to agriculture, then, the bank ended up in a management role. An assessment by the provisional administration overseeing the bank’s liquidation points to the difficult state of agriculture, which was suffering from extraordinarily high coffee production and sinking international prices, but it lays blame as well on the “lack of care in assessing the proposals for mortgage loans; the lack of scruples in the respective valuations, which were generally exaggerated; and the ease with which the bank allowed great sums to leak out of the commercial and special portfolios.” 83 The problems identified by the liquidation administrators in January 1906 were clearly evident in October 1905. The bank had fallen seriously behind in its payments to colonists and plantation employees, who in turn faced the possibility of losing their work force for nonpayment of wages. Plantation administrators paced the waiting room to get news of their money to meet their current bills, reluctant to leave without it. When the bank examiners seized the bank in November, it had just 765 mil-réis on hand. This meager amount stood in contrast to the more than 700,000 milréis in expenses the bank had run up trying desperately to stave off foreclosure. Meanwhile, its greatest asset was 16 million mil-réis in outstanding mortgage loans, which the liquidation council estimated to be overstated by at least 60 percent. Many assets, they warned, were worthless. Their most optimistic projection was that investors holding the more than 14 million mil-réis in mortgage-backed notes would not likely get full compensation.84 The more serious problem was that the plantations on the bank’s books were left completely unfunded.

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The Failure of Universal Banking The review of the various universal bank portfolios shows that while these banks grew in scale and scope over the 1890s, they were in serious trouble by the turn of the twentieth century. The Banco de Santos, which looked far more like a commercial bank than a universal bank, disappeared from the public record after 1898. The Banco de Crédito Real struggled to survive but entered a protracted bankruptcy and liquidation period beginning around 1905, in spite of numerous revisions to its statutes and desperate public pleas to support inter-portfolio funds transfers. The Banco Unia˜o de Sa˜o Paulo got out of banking altogether to focus on its industrial business. Although it retained the name “bank” for almost a decade longer, it in fact ceased banking services in 1906 and was subsequently listed with the industrial firms on the stock exchange. In sum, just three banks formed under the Republican banking reform law, none of which survived into the twentieth century. By 1906, the state of Sa˜o Paulo, the most important agricultural region and soon to be the most important industrial economy in all of Brazil and perhaps in all of Latin America, had no long-term lending institution. The failure of the Banco de Crédito Real was due, without question, to its poor track record in valuing assets, compounded by the difficulties in foreclosing on real property. Part of the problem, though, has to be attributed to the firewalls constructed between the various portfolios under management of the universal banks. Universal banks were prohibited from using funds raised in one portfolio for applications in another portfolio. This prohibition was intended to keep the banks from using short-term funds to back long-term loans, but it also eliminated one of the major advantages universal banks possessed in theory: the ability to diversify their assets to overcome shocks in any one area. The firewalls meant that assets from a healthy business like commercial banking could not be mustered to bolster a flagging business like mortgage banking. Instead, the flagging business acted like a sea anchor and dragged the entire bank down. Given the limited domestic interest and lack of success of universal banking, the government turned to foreign sources and found French bankers willing to wade into the Sa˜o Paulo economy. The Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo was formed in 1909 after the state of Sa˜o Paulo offered profit guarantees to the merchant bank of J. Loste & Cie. and Crédit Foncier.85 The bank, funded largely by a bond issue and only nominally by equity, operated as a private bank until 1926, when it was nationalized and renamed the Banco do Estado de Sa˜o Paulo,

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Discounted paper Total loans Short-term loans Mortgage loans

1914

1920

Nominal mil-réis

% of total assets

Nominal mil-réis

% of total assets

Nominal mil-réis

% of total assets

2,883,355$ 12,124,639$ 2,270,830$ 9,853,809$

19.2 80.8 18.7 81.3

1,678,959$ 22,711,182$ 4,658,131$ 18,053,051$

6.9 93.1 19.1 74.0

13,943,281$ 42,295,465$ 31,733,583$ 10,637,948$

24.8 75.2 56.4 18.9

s o u r c e : O Estado de São Paulo, 11 January 1911, 12 January 1915, 14 January 1921. n o t e : Balance sheets ending 31 December.

or Banespa, which exists to this day.86 This institutional longevity alone suggests that this bank was more successful than the earlier banks. An important element of the Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo’s success has to be attributed to its funding. Unlike the earlier universal banks, the Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo was not required to separate its assets and liabilities into different portfolios to separate its short-term from its long-term credit operations. This bank was free to use its funding however it wished, a privilege the earlier banks asked for but were not granted, as we saw above. Because its funding was overwhelmingly raised through a bond issue, meaning that these funds were long-term funds, the bank did not have to worry about balancing the term lengths of its credit with the term lengths of its capital, like the commercial banks did. Nor did the bank have to worry about repeatedly going to the market for new funding by issuing mortgage-backed notes, the way the Banco Unia˜o de Sa˜o Paulo and the Banco de Crédito Real did. The 26,000,000$ in stocks and bonds that made up this new bank’s capital easily funded the 12,000,000$ in short-term and long-term loans on the books after its first full year in operation.87 Even with this funding advantage, the new investment bank failed over the long run to commit itself to long-term lending. For the first eight years, from 1909 through 1916, long-term credit was the single largest application of earning assets at this bank, but by mid-1917 the amounts going to shortand long-term loans were roughly even and represented a turning point. Thereafter, short-term loans predominated among all loans and among earning assets.88 By the end of 1918, short-term loans were more than double the amount of long-term loans on the books, which were steadily dropping as existing mortgages were apparently retired (see Table 5.6).

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According to Gail Triner, the bank had long been concerned about fulfilling its mission to provide long-term credit to Sa˜o Paulo’s rural sector, revising its statutes in 1913 to protect mortgage credit for rural concerns.89 Triner argues that it was easier to value and collateralize urban properties than rural properties, and was easier to collect them in case of default, causing banks to be biased toward urban lending. In fact, the statutes of the original three universal banks allowed for higher interest rates on urban mortgages than on rural mortgages, which would seem to have made urban mortgage lending attractive. In spite of the Banco de Crédito Hypotecário e Agrícola’s concern over this issue, which led it to cap urban mortgage lending at 25 percent of its credit, it apparently succumbed to similar pressures to limit its rural exposure. Triner notes that “concerns about the possibility of issuing bad mortgage credit were strong enough that the Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo proudly published in its annual report of 1925 that ‘[a]t the moment the bank does not own a single fazenda.’” 90 In the end, then, the experiments with universal banking failed to create lasting, diversified, development-oriented institutions.

Profits and the Failure to Thrive It is clear from the institutional histories of the Sa˜o Paulo universal banks that these intermediaries struggled to gain a place in the Sa˜o Paulo economy. The legislation that bore them was thought to be enticing by virtue of the special privileges and concessions these banks were entitled to, yet only three of more than thirty domestic banks organized as a result of the banking and joint-stock reform laws did so as universal banks. The question, clearly, is why was there such limited interest in universal banking? In theory, these banks should wield huge advantages over specialized banks such as commercial banks. Commercial banks forever have to explore the marketplace to find good investments and therefore have higher information costs. We know from the financial and banking literature that the short-term services of a commercial bank are also theoretically associated with higher transaction costs. That universal banks can economize on both of these leads to the conclusion that they had a great cost advantage, and their ability to follow clients through their firms’ life cycle should produce lower risk. The logic behind this argument suggests, then, that universal banks should be more profitable than specialized banks. We also know from the theoretical literature and the historical cases that clients derive some benefit from their relationship with universal banks. The banks place their directors on the boards of client companies, ensuring

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greater access to inside information. The banks offer managerial advice and even personnel to client companies, enhancing the client’s performance. And given the bank’s inside information and managerial expertise, the existence of continuous lending or involvement in a stock offering by the client signals to the marketplace the strength and stability of the client company. The literature has tended to test the importance of this relationship by looking at the performance of the clients. But if universal banks offer all these services, have all these advantages, and generate these savings, they themselves should demonstrate the advantages of their format in their own performance as a business. Stated simply, if universal banking is a superior form of financial intermediation, then universal banks should generate superior returns. Given the puzzling failure of these institutions to thrive in Sa˜o Paulo, especially given the theoretical advantages of universal banking and the generosity of the Brazilian government concessions, I looked at their profitability for evidence of their performance. I found, as the following discussion demonstrates, that universal banks had the lowest profitability of any type of bank operating in Sa˜o Paulo.91 Profitability of banking can be measured from two approaches: internally, as an enterprise, and externally, as an investment. The measure of success of a bank as a business, or its internal profitability, is its return on equity. Return on equity sizes up annual net profits against a bank’s equity and retained earnings. The measure of a bank’s attractiveness as an investment, or its external profitability, is the returns paid to shareholders. This measure compares dividend payments in a given year against the year-end market value of the stock. Bank shareholders look to the internal profitability of banks to see how well they perform as a business because a bank’s internal performance will have an impact on the rewards it can pass on to its shareholders. When an enterprise is successful, the bottom line will show healthy profits that will be distributed to its investors in large dividends. These results will enhance the image of the company on the stock market and will boost its stock price. Shareholders will be doubly rewarded, through the return on their investment represented by the dividend and through the appreciation in the value of their investment on the market. Moreover, healthy profits will draw new investors and entrepreneurs to the sector, resulting in new business formation. External measures of return, then, can tell us a lot about why investors allocated their savings the way they did. That allocation of savings, in return, had a direct impact on the development of the domestic economy because it chose to support particular types of businesses. Return on equity and return to shareholders can be compared from bank to bank to see how an individual institution fared over time. In addition, the

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external returns to shareholders can be compared to other investments to gauge bank stocks’ attractiveness to the investing public. I performed the same calculation—returns to shareholders— on four separate government bond issues through the period to see how bank stocks performed relative to a low-risk investment alternative and to assess the relative risk of investing capital in bank stocks. (The complete methodology and results for all banks can be found in the Appendix.) No matter the measure, the results of the profitability study reveal that universal banks consistently had the lowest profitability of any banks in Sa˜o Paulo and that they represented among the riskiest investments an investor could make. If investors used profits as a gauge to allocate their surplus capital, then the lack of new universal bank formations may be explained by the low rates of return by the only three in existence. If we were to rank these poor performers in order of their returns, we would find that the Banco Unia˜o de Sa˜o Paulo was the most successful universal bank. This bank, the largest and most diversified of the three mixed banks, with assets dedicated to commercial loans, rural mortgages, urban mortgages, and investment in urban industrial plant, had a modestly successful run. Its return on equity averaged only 4.9 percent per semester in the first half of the 1890s, 3.0 percent in the second half of the decade, and posted losses in three of five periods for which I have data in the first years of the twentieth century. However, with the exception of an occasional good semester’s returns, these profitability figures were lower than any commercial banking institution in operation during this entire period (see Table A.2). The only bank the Banco Unia˜o de Sa˜o Paulo outperformed with any regularity was its fellow universal bank, the Banco de Crédito Real. Seven of eleven commercial banks always performed as well or better than all three universal banks in operation during the period, and ten of eleven commercial banks outperformed the Banco de Crédito Real mortgage bank in every period. Most commercial banks earned semester profits of 6 percent and above, while the universal banks tended to earn half that. The one universal bank that most resembled a commercial bank, the Banco de Santos, also generally had the highest returns of the three mixed banks in any given period. Certainly the commercial banking profit potential was higher than that of the universal banks. The Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo, after receiving inducements from the state government, performed reasonably well in Sa˜o Paulo but did not prove the superiority of the universal banking format through higher profitability. This French bank steadily earned returns between 3 and 4 percent per semester, compared to a profit

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range of 4 to 8 percent for the two established commercial banks and 1 to 5 percent for the newest commercial bank, the Banco Comercial do Estado de Sa˜o Paulo (see Table A.3). Its five-year average earnings for the periods 1911–15 and 1916 –20 were respectable but only outperformed one of the three commercial banks for which I have data. External measures of profitability, measures that quantify returns to shareholders for their investment in the stocks of banking companies, show how the accounting rates of returns for banking enterprises translated into tangible rewards for those who supplied the capital. To determine how shareholders were compensated for their investment in banking institutions, I took the total value of declared dividends for the year and measured them against the year-end market values for the banks’ stocks. I performed the same calculation on an alternative, low-risk investment—government bonds—to determine what would be a lower-bound level of return sought by investors in the Brazilian economy. The results demonstrated that banks consistently tended to pay substantially higher returns than did low-risk government bonds. The higher returns earned by stockholders relative to government bondholders can be thought of as the premium required by banks’ shareholders to compensate them for the higher risk associated with the investment. Investors tend to require a higher rate of return on investments perceived to be risky than they do on investments perceived to be secure, and my data bear out this tendency. Premiums paid to bank shareholders in the late 1880s and up to 1891 ranged from 15 percent to 200 percent, with the highest premiums paid by the agricultural mortgage bank. The Banco de Crédito Real paid between 1.5 times and 3.2 times the returns investors could earn on government bonds, while commercial banks tended to pay something less than two times the bond returns (see Table A.4). The speculation of the early Republic years, 1890 –91, surprisingly, did not generate the largest premiums of the entire period. In spite of a widespread reputation as an era of fraudulent business formations, the Encilhamento did not bring such speculation to the bank sector. Rather, it was a time of real institutional expansion and productive lending, characterized by returns to shareholders on the same order as the 1880s. The bigger premiums came in the mid-1890s. By that time, the inflation in the economy was undermining the value of the domestic currency enough to worry policymakers and coffee growers. Although the Sa˜o Paulo economy was in the process of urbanizing and industrializing, it was still predominantly agricultural, with its fortunes strongly tied to the coffee sector. The sole industrial investment bank, the Banco Unia˜o de Sa˜o Paulo, paid

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by far the highest premiums on its capital. These were on the order of four to nine times general bonds and five to twenty-two times 1868 bonds in the late 1890s, due to the Banco Unia˜o’s depressed stock price. The stock price, just 12 percent of par in this period compared to 90 percent of par in 1891 and 38 percent of par in 1899, reflected the pressures on industrial ventures during this period of economic turmoil.92 The highest premiums ever paid by commercial banks, by comparison, were two to four times returns on general government bonds and four to seven times returns on 1868 bonds in the period from 1895 to 1897. Universal banks, then, were less profitable and more risky than their commercial counterparts and therefore failed to attract new investors and entrepreneurs to the business. While profit data can help us understand why the universal bank format was not attracting new investors once the original three banks were formed, they do not intuitively explain why this type of bank struggled so in this region of growth and diversification. Sa˜o Paulo from 1880 to 1920, after all, was the premier coffee-producing region in the world and was rapidly industrializing as well. These universal banks were formed precisely in the era considered by economic historians to be one of the most successful economic transformations to have taken place in an export economy. Why wasn’t the universal bank, a potentially awesome development tool, successful? There are several possible answers to this question, some specific to the universal banking business and others more broadly located in macroeconomics. For Gail Triner, the fundamental problem faced by the mortgage portfolios of universal banks was Brazil’s property rights.93 Laws governing property rights prohibited the breakup of estates for the settlement of debts. This meant that banks could not take any part of an estate, its buildings, or its machinery to settle on a defaulted loan if doing so diminished the productive capacity of the estate. Banks did accept rural properties as collateral to guarantee their mortgage loans, but at a deeply discounted value and only very cautiously. This was true in the case of the Banco de Crédito Real, which ended up a victim to that very problem. The universal banks Santos and Banco Unia˜o de Sa˜o Paulo, however, had big urban mortgage holdings, which were easier to collateralize and collect, and they both failed to thrive as well. The property rights argument, then, cannot fully explain the failure to thrive. A second possible answer to the failure of universal banks to thrive rests in their fund-raising mechanism: the mortgage-backed note. Triner argues that investors showed no interest in the mortgage-backed letters that these banks offered to fund their long-term credit. This lack of interest meant that banks were unable to raise enough long-term funding to be effective pro-

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viders of long-term credit. This inability, then, would limit the bank’s ability to realize its potential. Data from the Sa˜o Paulo Bolsa shows, however, that there was fairly constant and consistent interest in the notes of the two banks that issued them, the Banco de Crédito Real and the Banco Unia˜o de Sa˜o Paulo. The Banco de Crédito Real issued twelve separate note series over time, each with its own quote in the financial pages. In fact, the 11th and 12th series appear to have been issued in 1899, shortly before the bank entered into liquidation, and yet both have buy quotes listed in the paper, indicating interest in their acquisition.94 Quotes on the notes of these two banks never approached par (100$) and fluctuated over time, but generally floated in a band between 60$ and 70$ for most of the 1890s and early 1900s. These quotes do not reflect wild enthusiasm for the notes, but they did hold their value over time and represented a decent 10 percent return for their holders. And transaction data show that these quotes were tied to actual exchanges. If low demand for the notes, meaning funding shortages, was the problem, profits from the commercial portfolio, which should have been at least as successful as the specialized commercial banks, might have provided the universal banks with a cushion. Problems internal to the banking business, then, do not appear to fully account for their poor overall performance. While the limitations identified by Triner very likely curtailed the ability of the banks to operate at their chartered potential, a more fundamental set of problems appears to lie in the macroeconomic instability of the 1890s and early 1900s. This instability, whether produced by booms or recessions, affected both agriculture and industry, and therefore subverted the profitability of businesses engaged in or lending to these endeavors. Lending to agriculture had long been an uncertain venture. As we saw in Chapter 2, there were significant problems in obtaining good information on the creditworthiness of loans. These information problems were compounded by the difficulty in collateralizing the loans. The example of José Vergueiro, detailed in Chapter 2, was instructive. He was from an important planter family, raised a loan against his Ibicaba plantation, and then defaulted on that loan. The bank was unable to seize the plantation, and it was ultimately up to a court to strip Vergueiro of this asset. Ironically, the very success of coffee introduced one of the greatest sources of uncertainty to the Sa˜o Paulo economy: oversupply. The longlasting boom in world demand and the stability of coffee prices, coupled with improved transportation systems and a steady supply of labor, prompted Sa˜o Paulo planters to expand coffee production from 1886 to

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1896. During this period, the amount of coffee planted in Sa˜o Paulo almost tripled, from 141 million to 386 million trees. By the turn of the century, Brazilian coffee production alone was greater than total world demand, creating huge stores of unconsumed coffee and keeping international prices under great pressure until the state of Sa˜o Paulo implemented its coffee pricesupport plan.95 The revaluation of the exchange rate under the deflationary policies of Finance Minister Joaquim Murtinho (1898 –1902) hurt the income of agricultural producers, as we saw in Chapter 4, causing many to default on their loans. Murtinho felt that the falling exchange rate was inherently negative because of its effects on internal prices, ignoring its beneficial effect on the foreign sector. A devalued exchange rate makes export products cheaper in foreign currency and often results in an increased demand for the products. In the case of Brazilian coffee, this mechanism had seen planters through previous downturns. They earned less foreign exchange per unit of coffee they sold, but the increased volume of sales protected their income level. By artificially raising the exchange rate, Murtinho kept this compensation mechanism from working. Coffee prices were already very low, because of the huge unsold stocks that were accumulating, when the rising exchange rate dampened international demand. Export revenues from coffee fell at the rate of 10 percent per year from 1901 to 1904. The regional nature of mortgage lending meant that the universal banks were not geographically diversified, so problems in the coffee sector weighed heavily on their balance sheets. As coffee stocks piled up and planters defaulted on their loans, the Banco de Crédito Real found itself holding illiquid rural properties. Such a scenario was precisely what banks wished to avoid. Lending to industry was no more certain during most of the nineteenth century. Domestic industry was new to the Sa˜o Paulo economy, having been legalized in Brazil only in 1808 and arriving in Sa˜o Paulo in the 1850s.96 Its youth gave the financial markets very little time to gather information on which industries were best suited to local talents and materials. In addition to this inherent problem, the Brazilian government was ambivalent about the very suitability of industry to its domestic economy. Brazil had been founded as a colony designed to export cash crops to Portugal for the latter’s enrichment, and the strong orientation of the economy to the export sector was difficult to change. While the small weight of the industrial sector and the government’s ambivalence toward it created information problems, the principal adversary of industrial development during the nineteenth century was the government’s reliance on taxes on the foreign sector for its funding. Because these taxes

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comprised such an important part of its revenue, the government was reluctant to implement policies like protective tariffs that would discourage international trade.97 There were interludes, however, when policymakers argued for the importance of developing the internal economy. In these interludes, tariff policies were passed to provide stimulus to domestic industry. For example, the 1840s and 1850s were a period of substantial policy support for factory production through state moneys and tariff protection, which sparked a manufacturing boom at mid-century.98 Further, unintentional, protection for industry came in the 1860s in the form of heightened import taxes to raise money to pay for the Paraguayan War. These new taxes discouraged imports and effectively granted domestic industry a price advantage. As domestic industry took root, new pressure groups arose in the form of professional associations to lobby for additional protection, which they sometimes won. This protection was routinely overturned due to counterpressure from importers, however. A striking example of this ambivalence is captured in the tariff debates of the 1890s.99 As was detailed in Chapter 4, the early 1890s were a time of rapid expansion of Brazil’s urban industrial and commercial base. Much of this expansion came from the rapid devaluation of the mil-réis, which made imports relatively more expensive and granted domestic products a competitive advantage. As the crisis of coffee overproduction loomed, pro-industrial forces argued that protection for industry should be institutionalized in order to develop the economy and thereby lessen its reliance on international demand for its export products. This argument found support in the early Republican regimes.100 The 1895 – 96 tariff law accorded broad protection to a number of manufacturing sectors in support of this concept. By 1897, however, importers had exerted sufficient pressure to get the law revised. Rapid shifts in tariff policies over the second half of the nineteenth century, such as this one, caught domestic industry in a whipsaw effect that regularly put industrial firms out of business. The uncertain and unstable political environment in which industry emerged made it difficult to predict the survival of a particular firm. Companies which flourished under one tariff law could quickly be wiped out by its subsequent revision. According to a contemporary observer, tariffs were like “fashions in clothes and hats” that changed every year.101 Given the government’s ambivalent attitude about the need for domestic industry, which persisted through the deflationary reforms of Joaquim Murtinho that included onerous consumption taxes, it is not surprising that virtually no longterm lending to industry existed during the nineteenth century. The Murtinho reforms capture the uncertainties faced by the businesses

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who should have been clients to the universal banks. Fluctuations in tariff and taxation policies hurt domestic business profits, reducing their attractiveness as candidates for credit. The crisis of coffee overproduction and the subsequent assault on planter incomes introduced the likelihood of default. And the withdrawal from circulation and destruction of domestic currency curtailed liquidity in the economy. The reduction in the money supply under the Campos Salles/Murtinho regime provoked a bank panic in 1900 that almost destroyed the Brazilian banking system that had slowly evolved since mid-century. A run on banks in Rio de Janeiro in September and October of that year forced many financial institutions to fail. In Sa˜o Paulo, only two of the domestic banks founded in the 1880s and 1890s survived the bank panic (see Chapter 6).102 Significantly, none of the universal banks survived. The Banco de Santos disappeared from the historical record around 1899, the Banco de Crédito Real went into liquidation in 1904, and the Banco Unia˜o de Sa˜o Paulo abandoned its banking business after 1906 to dedicate itself full time to its industrial businesses. The failure of mortgage banking to expand during the 1890s, when Brazil dominated the international coffee market and industrialization took firm root, appears to be due to the sense of uncertainty fostered by the poor underlying fundamentals. On the industry side, the newness of companies and their technologies, the flip-flops on industrial protection, and the final assault via the consumption tax made investment in industry a risky proposition. On the mortgage-lending side, the inflation rate alone more than canceled out the interest rate these banks were legally bound to in six of the ten years of the decade.103 Coffee was being cultivated in new, untested regions by a new generation of planters, limiting the personal knowledge held by mortgage lenders of the creditworthiness of new loans. And, coffee prices were falling while coffee harvests were growing, causing a greater element of risk and concern to enter into the equation. These factors combined to limit the development of long-term credit banking during the coffee boom. Two clear trends emerged from this confluence of factors: the consistently declining profits of the Banco Unia˜o de Sa˜o Paulo and the consistently low profitability of the Banco de Crédito Real. The Banco Unia˜o was the only investment bank with any real investment in industrial pursuits. These industrial investments comprised an increasing proportion of the bank’s assets over time. As industrial investments increased, profits decreased. Unfortunately for the Banco Unia˜o de Sa˜o Paulo, the growth in industrial investments just preceded a regime change which brought in Finance Minister Murtinho, who felt Brazil had no business industrializing. As

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detailed in Chapter 4, policies hostile to the domestic economic development effort placed new urban industries under pressure and had to have dampened the profits of their bankers. Even before the arrival of Murtinho, however, no other banking institution in all of Sa˜o Paulo lent long-term credit to industry. The consistently declining returns at the Banco Unia˜o coupled with a near total lack of banking institutions interested in industry suggests that industrial credit, which took a long time to bear fruit, was not an attractive business. The commercial banks that sometimes outperformed the industrial investment bank Banco Unia˜o always outperformed the agricultural investment bank, Banco de Crédito Real. The tendency of commercial banks to attain a higher rate of profitability than the Banco de Crédito Real from 1890 to 1905 was likely due to the deteriorating condition of the coffee market during the period, and explains the limited expansion of agricultural mortgage banking vis-à-vis commercial banking. This general crisis in the coffee sector is reflected in the profitability of all banks, which declined somewhat from the early years of the 1890s. Still, commercial banks remained more profitable than the mortgage bank, whose business of lending to the agricultural sector would fail shortly after the turn of the century. The forces that undermined the profitability, and ultimately the survival, of universal banking were uncertainty coupled with long-term exposure. Universal banks extended their capital for long periods of time and had no recourse to easy or immediate liquidation of an asset in the case of a crisis. The only way to ameliorate this risk was to develop good information, but this grail of the universal bank had historically been difficult to come by in the most ideal of circumstances. In fact, new research on the German universal banks reveals that information produced by those highly developed banker-client relationships was not as complete or perfect as long thought.104 Information in an era of policy shifts and economic crisis, such as those experienced in Brazil at the turn of the twentieth century, was even more difficult to obtain. As we will see in Chapter 6, this was one of many forces working to reinforce the short-term banking practices that dominated the Sa˜o Paulo economy.

Chapter 6

Commercial Banking and the Business of Development

The reforms that revolutionized the business environment in 1890 were meant to promote domestic economic development by easing new company formations on the one hand and creating development-oriented universal banks on the other. The reforms succeeded spectacularly in the first instance, leading to the formation of the stock exchange, which would be fundamentally important to economic development, but failed abysmally in the second. The universal bank format was not widely adopted, nor were the few universal banks successful businesses. In spite of government efforts to promote this one specific type of bank, bankers after 1890 stuck to what had been proven successful: commercial banking practices. The predominance of commercial banks in Sa˜o Paulo was a byproduct of the types of instabilities so evident in the Brazilian economy throughout history, but especially present in the 1890s. The uncertainties introduced by shifting political regimes and economic policies made longterm lending to business fairly risky. By limiting credit to the short term, bankers could monitor the performance of their clients on a semester or annual basis. If a client was doing well, its credit was renewed. If a client was in trouble, credit could quickly be withdrawn. This constant monitoring allowed banks to get out of a potentially bad situation. It was a tried-and-true mode of operation that had generated a good string of profits and returns to investors over the years, evolving as it did out of the highly personal relationships of the era of informal finance. Bankers who had once relied on the 153

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personal reputation of their clients as security now placed their board members on the boards of non-bank companies for much the same reason. They used these relationships as a source of information and the reduction of risk that came with it. This chapter examines the institutional growth, relationships, and business practices of the commercial banks that participated in the diversification of the Sa˜o Paulo economy. Native banks in the 1890s were in their heyday. Financial records and shareholder information show that the banking sector after 1890 grew quickly, diversified its practices and expanded its presence into the countryside, and formed multiple alliances with non-bank companies through shared members of boards of directors. The turn of the twentieth century brought a change of fortunes for Sa˜o Paulo banks, as the 1900 bank panic triggered widespread bank failures and gave foreign banks the upper hand once again, but the domestic banks that survived the crisis emerged transformed. These banks were bigger than the ones that had failed, and innovated by turning to branch banking in place of the vulnerable unit banking practice that had dominated before. Most striking is the fact that the surviving banks were far less reliant on personal connections to manage their business than banks had been up to the turn of the century. By 1920, Sa˜o Paulo’s domestic banks had successfully made the transition from personal to institutional intermediation.

The 1890 Reforms and New Bank Formation The Republican coup stimulated a phenomenal expansion in domestic business thanks to the regulatory reforms of January 1890. For the bank sector, the reform that most promoted expansion was the one that eased the regulations for joint-stock company formation by eliminating shareholder liability for corporate debts. Almost all banks were joint-stock companies under the Empire; the exposure of unlimited liability had presented shareholders and bank directors with significant personal risk. As we saw in Chapter 3, this risk had been an important factor in dampening business formations via the joint-stock company format. The only enterprises that dared to form as joint-stock companies under conditions of unlimited liability were those that were too big to be financed via traditional means, those that enjoyed profit guarantees, and those like the commercial banks that had means to limit their risk through conservative business practices. The reforms of January 1890 that eliminated the liability of investing in a joint-stock company had a far greater impact on Sa˜o Paulo’s bank sector than the hefty new laws permitting universal bank formation. Stimulated by

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Ta b l e 6.1 Asset Size of Paulista Banks, 1890 –1892 (assets in nominal mil-réis) Domestic banks Banco de Crédito Real/Banco Comercial Banco do Brasil/Banco Construtor e Agrícola Banco Mercantil de Santos Banco da Lavoura Banco União de São Paulo Banco dos Lavradores Banco do Comércio e Indústria de São Paulo Banco de São Paulo Banco de Santos Banco Melhoramentos de São Paulo Banco Provincial de São Paulo Banco I´talo-Brasileiro Banco Operário e Territorial Banco Auxiliar do Comércio Banco dos Operários Banco de Ribeirão Preto Banco Comercial da Bolsa de São Paulo Banco do Estado Banco Predial de São Paulo Banco Melhoramentos do Jaú Banco União de São Carlos Banco de Piracicaba Banco Popular de Guaratinguetá Banco de Araraquara

Founded

Location

Asset size

1882/1886

São Paulo

65,000,000

1856/1890 1872 1886 1890 1890

São Paulo Santos São Paulo São Paulo Campinas

21,000,000 21,000,000 8,000,000 112,000,000 39,000,000

1890 1890 1890 1890 1890 1890 1890 1890 1890 1890 1891 1891 1891 1891 1892 1892 1892 1892

São Paulo São Paulo Santos São Paulo São Paulo São Paulo São Paulo São Paulo São Paulo Rib. Preto São Paulo São Paulo São Paulo Jaú São Carlos Piracicaba Guaratinguetá Araraquara

34,000,000 29,000,000 12,000,000 9,000,000 8,000,000 7,000,000 2,500,000 2,000,000 2,000,000 1,300,000 3,500,000 3,000,000 2,000,000 900,000 11,400,000 4,000,000 2,700,000 800,000

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various dates; Saes, Crédito e bancos, chap. 4. n o t e s : This table only includes banks for which I have data. Other banks are known to have been formed in this period, and are mentioned in Saes, but I found no supporting documentation. These include the Banco da Bolsa de São Paulo, Banco de Caução, Banco de Crédito Móvel, Banco do Povo, Banco Construtor e Auxiliar de Ribeirão Preto, Banco Norte de São Paulo, Banco Municipal de Pindamonhangaba, and Banco São Paulo e Rio de Janeiro (see Saes, Crédito e bancos, 97).

the new regulatory environment, Sa˜o Paulo’s banking sector expanded from nine to more than thirty banking institutions in the opening years of the Republic. With this expansion came important changes to the sector. Many commercial banks continued to offer services to their existing clientele, with whom they had established personal and professional ties, but several of the new commercial banks identified nontraditional clientele and practices as their principal business. In addition, at least six of the new commercial banks were headquartered in Sa˜o Paulo’s secondary cities for the first time. The pace of expansion experienced by the banking sector, both in number of institutions and in total asset value, was quite rapid. At least ten new banks formed in 1890, five more in 1891, and an additional four in 1892.

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chapter 6 Ta b l e 6.2 Domestic vs. Foreign Share of the São Paulo Banking Sector, 1882 –1906 (deposits by bank type, millions of nominal mil-réis, and % of total) 1882

Deposits City commercial banks Regional commercial banks Universal banks Foreign commercial banks Total deposits % in domestic banks % in foreign banks Short-term credit City commercial banks Regional commercial banks Universal banks Foreign commercial banks Total short-term credit % by domestic banks % by foreign banks

7.8

1889

1892

1895

1898

1901

1906

18.8

55.8

61.4

58.1

72.2

56.8

3.7 15.0

5.5 7.6

5.4 10.4

8.2 2.5

2.7 1.7

37.5 111.4 66.3% 33.7%

26.6 109.5 75.7% 24.3%

32.3 93.5 65.5% 34.5%

3.1 10.9 71.6% 28.4%

11.7 30.5 61.6% 38.4%

8.3 82.8 90.0% 10.0%

18.2 92.7 80.4% 19.6%

11.3

12.9

62.9

61.5

52.0

56.6

6.6 16.5

8.9 13.1

8.1 13.8

10.0 3.4

6.4 92.4 93.1% 6.9%

12.0 95.5 87.4% 12.6%

3.2 14.5 77.6% 22.4%

9.4 22.3 57.8% 42.2%

33.4 107.3 68.9% 31.1%

26.6 96.6 72.5% 27.5%

61.2 3.4 .04 28.2 92.8 69.6% 30.4%

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various dates. n o t e : Universal bank figures refer to the commercial portfolios.

Many of these additions to the sector were establishments of significant size. Two new commercial banks, the Banco dos Lavradores and the Banco de Sa˜o Paulo, were as large as the long-time participants Banco do Brasil (which became part of the Banco Construtor e Agrícola in 1890) and the Banco Mercantil de Santos. One new commercial bank, the Banco do Comércio e Indústria, surpassed all of the older banks in terms of asset value. Not only were new banks big, they were overwhelmingly domestic. A glance at Table 6.1 reveals that none of the new banks formed in the wake of the reforms were foreign banks. The three foreign banks in Sa˜o Paulo in the 1880s, the two branches of the English Bank of Rio de Janeiro and the London and Brazilian Bank, were the only foreign banks operating in Sa˜o Paulo until the mid-1890s.1 A German commercial bank, the Brasilianische Bank für Deutschland, formed in 1893, and a French commercial bank, the Banque Française du Brésil, formed four years later. No other foreign banks entered the market until well after the bank crisis of 1900 had passed. In the early 1890s, then, domestic banks made significant gains in market share (see Table 6.2). Foreign banks would not capture a dominant share of the mar-

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Ta b l e 6.3 Sources of Bank Funds, 1889 –1906 (millions of nominal mil-réis)

Equity City Commercial Regional Commercial Universal Total Equity % change Deposits: Commercial Regional Commercial Universal Foreign Total Deposits % change

1889

1890

1895

1898

1901

1906

11.4

16.2

6.7 18.1

18.8 35.0 93%

26.0 5.1 31.1 62.2 78%

19.0 4.6 23.5 47.1 (24%)

25.2 6.9 18.1 50.2 7%

20.0 1.4 5.0 26.4 (47%)

18.8

30.6

11.7 30.5

15.7 5.4 51.7 70%

61.4 5.5 7.6 18.2 92.7 79%

58.1 5.4 10.4 37.5 111.4 20%

72.2 8.2 2.5 26.6 109.5 (2%)

56.8 2.7 1.7 32.3 93.5 (15%)

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various dates. n o t e : Foreign banks did not issue equity in Brazil and so were funded entirely by deposits.

ket until well after the turn-of-the-century banking crisis that eliminated most domestic banks. That the legislative reforms unleashed such a torrent of new bank formations suggests there was great pent-up demand for investment opportunities in Sa˜o Paulo. Indeed, the 1907 industrial survey found that most industrial formation up to that time originated during the agricultural expansion of the 1880s and 1890s.2 The coffee boom, then, was generating substantial income for the agricultural sector and surplus capital for investment in non-agricultural activities.3 Much of this surplus found its way into the new banks, whose equity and deposits mushroomed after 1890. The reforms created a favorable environment for the formation of joint-stock companies in general by protecting investors, and acted as a boon to financial institutions in particular because they allowed banks to both take advantage of the format and serve the non-bank businesses that were also forming at the time (see Table 6.3). Although most of these financial institutions were new to the Sa˜o Paulo economy, some significant continuity between the eras of the Empire and the early Republic was achieved through reorganization and acquisition. The shareholders of the Banco Popular, just founded in 1888, were directed to the newly formed Banco Provincial de Sa˜o Paulo at the end of 1889, with the assurance that they would receive preferential status in the subscription of the new bank’s shares.4 The Banco Provincial, in turn, merged into the

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Banco dos Lavradores the following year.5 A similar transformation took place for another bank from the Empire, the Casa Bancária da Província de Sa˜o Paulo. This limited partnership banking house reorganized as the largest of the joint-stock banks, the Banco do Comércio e Indústria de Sa˜o Paulo, in 1890.6 It would become Sa˜o Paulo’s most successful bank. In addition to these corporate transitions, there were two outright acquisitions in 1890. As we saw in the last chapter, the Banco de Crédito Real acquired the Banco Comercial de Sa˜o Paulo in 1890 to give the mortgage bank an entree to the commercial banking business.7 Finally, the assets of the Banco do Brasil’s Sa˜o Paulo affiliate, the oldest bank in Sa˜o Paulo, were acquired by the new Banco Construtor e Agrícola in 1890.

Information Problems and Business Ties Continuity from one period to the next gave bankers an important advantage in navigating the booming Republican business world, but the proliferation of business enterprises after 1890 far outran the ability of old banks to keep up. New businesses created new demand for credit, met by the formation of new banks, but it also produced a new set of information problems. The sheer quantity of firms founded after 1890, and particularly the newness of the businesses they represented, made it difficult to gather the information needed to determine the creditworthiness of new clients. Adding to these information problems was the uncertainty generated by government economic policy. As we have seen, the central government was, at times, ambivalent about promoting urban industrial and commercial enterprise. An ongoing debate about Brazil’s economic priorities underscored the first decades of the Republic. Bankers responded to these problems in ways we typically ascribe to universal banks. First, they specialized in the types of companies to which they lent short-term working capital. Second, they broadened their web of personal and business relationships with the non-bank companies, primarily by serving on the boards of directors of these new firms. Even with these strategies, however, most banks stayed away from long-term finance. The boomand-bust character of the 1890s bred a strong sense of uncertainty about the survival of new firms, many of which in fact went bankrupt, and the experiences of the two universal banks that did lend long-term to industry and agriculture were not encouraging. In the face of these uncertainties, Sa˜o Paulo bankers applied these two information-gathering techniques to their commercial banking practices.8 Specialization was an important tool available to commercial banks look-

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ing to serve the 1890s business world. While imperial commercial banks typically served the traditional import/export trade, which was arguably the most important sector of the Sa˜o Paulo economy, the new banks formed under the Republic were more likely to express interest in the opportunities created by the January 1890 reforms. The statutes and statements of purpose of many of the new Sa˜o Paulo banks show that some interesting niches were being carved out. Many of these niches identified in the new banks’ mission statements echoed the privileges extended to universal banks, but they sought to pursue them without assuming the complexities of the universal banking business. These opportunities included importing immigrant labor, building popular housing, providing loans to small businesses, and competing for real estate and infrastructure development contracts. The Banco Construtor e Agrícola, for example, announced its intention to contract for the construction of railroads, trams, communications lines, mills, factories, docks, bridges, and public and private buildings. In addition, it planned to finance the introduction of colonist labor in the countryside and to build housing for the urban working class.9 The Banco Melhoramentos de Sa˜o Paulo was apparently interested in some of the same lines of business as the Banco Construtor e Agrícola, for shortly after being founded it bought the privileges, tram lines, workshops, lands, and improvements of the City of Santos Improvements Co. Ltd., a company primarily dedicated to urban transport.10 The Banco Industrial Amparense was formed to finance public lighting in the interior town of Amparo.11 Other banks sought their clientele among a traditionally neglected population: the working classes. The Banco dos Operários promised to be “an institution entirely popular in character” that would “compete for the democratization of capital through small loans.” 12 It would build, refurbish, rent, and sell homes to the poor classes, accept mortgages on urban and suburban buildings of any value, and make small loans. In addition, it promised to establish productive and consumer cooperatives. Another “bank of popular character” was the Banco I´talo-Brasileiro. This bank was formed to help Italian immigrants repatriate money to Italy and to promote the immigration of Italians to work as agricultural colonists in the Sa˜o Paulo countryside. In addition, it announced its intentions to lend to small businesses and industrialists, many of whom were Italian immigrants.13 Within months of its founding, the Banco I´talo-Brasileiro had acquired 100,000 hectares of land for colonists and had formalized a contract to introduce 60,000 immigrants “of the best European origins” to the Sa˜o Paulo countryside.14 Although the bank was just founded in mid-1890, a newspaper reported that

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a shipment of immigrants arriving in November would be the fifth such group it had sponsored.15 Within two months, this same bank made a move into domestic enterprise when it acted as principal founder of the Companhia Alimentícia Sa˜o Paulo e Santos, a company organized to transport livestock from Paraná, Rio Grande do Sul, and eastern Uruguay for slaughter in Sa˜o Paulo and Santos for local consumption.16 In addition to identifying specific lines of business on which to focus, banks developed links to many sectors of the Sa˜o Paulo economy both through shared board members and limited direct investment.17 Historically, these sorts of ties have given banks insight into non-bank company operations and, therefore, financial health. The most famous example of using interlocking directorates to manage risk is the German case. Nineteenthcentury German universal banks created webs of interlocking directorates to both oversee and directly manage their non-bank client businesses. The idea behind these connections is that the information gained through these relationships reduced the riskiness of the long-term lending in which banks engaged. While this is typically credited to the universal banks, research on New England shows it was also true of commercial banks. In the New England case, interlocking directorates were key to financing and managing industrial companies. Entrepreneurs raised money from the community to form a bank, and then used bank funds to invest in targeted industrial ventures run by the very same bankers. This example shows that high-quality information was crucial to reduce the risk inherent in lending money at any term, not just the long term. The bankers in Sa˜o Paulo showed a similar propensity to form links with non-bank corporations. Lists of shareholders and boards of directors show that joint-stock companies shared members of their boards of directors. This had acted as a risk-management technique in the days of unlimited liability under the Empire. As we saw in Chapter 3, very few businesses used the jointstock format to finance their enterprise because of the impediment of unlimited liability. With this impediment removed by the reforms of 1890, the joint-stock format was used by a wide range of companies, but the ambivalence of the government on domestic economic development made it difficult to predict which companies were going to survive. Having bankers as board members meant companies might gain access to bank finance, while the bankers gained access to information. And board members who were prominent in their own right acted as a means to signal to the investing public that the non-bank companies were a sound bet. Business regulatory legislation and practices were maturing, but in the 1890s there still was no substitute for personal connections. Shared directorates were a reasonably ef-

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ficient way of gathering knowledge about diverse companies in an otherwise imperfect information market. Shareholder lists and the composition of the boards of directors demonstrate that there was, indeed, a strong degree of webbing among boards of directors of banks and non-bank companies. Shareholder and directorate lists identified hundreds of investors in and directors of Sa˜o Paulo joint-stock companies during the period 1856 –1905.18 About two-thirds of these shareholders and directors were mentioned in regard to just one company, which indicates that they were not among the more important individuals to know in Sa˜o Paulo, but the remaining onethird were linked to two or more companies.19 These links would provide the shareholders and directors information on a variety of businesses. Significantly, the most common link between two companies involved at least one link to a bank. Almost two-thirds of these links involved a direct connection to a bank through shareholders and board members (see Table 6.14 below). These connections were vital for gathering information about an economy that was quickly moving out of traditional sectors, like agricultural plantations and the businesses that served them, and into urban businesses like streetcars, telephone systems, beer breweries, glass manufactures, and so on. As planters and capitalists diversified their investments they needed some mechanism to evaluate the creditworthiness of these new companies seeking finance. The fact that banks very rarely lent money long term to anyone is a strong indication of their risk aversion and cautious practices. Based on the interconnections between banks and non-agricultural companies, it seems that even short-term credit appeared to demand some direct knowledge and oversight. Bankers and non-bank entrepreneurs, then, appeared to very consciously seek out some direct connection to one another in the time when Sa˜o Paulo was rapidly industrializing and modernizing its urban areas. Not only were Sa˜o Paulo bankers, investors, and entrepreneurs establishing connections to one another, many of them were forging connections with more than two companies. About half of the directors and shareholders linked to multiple companies had ties to two companies, while the other half had links to three or more companies.20 The most striking characteristic of the multiple company links is that one in eight of these individuals was linked to more than five companies. These men, who might be called superdirectors, had their hands in every type of enterprise existent in Sa˜o Paulo from the most traditional to the newest to form. There were twenty of these superdirectors in Sa˜o Paulo. Some of them sat on between seven and twelve boards. One of them, Antonio Proost Rodovalho, was directly tied to nineteen separate companies in every sector in the urban economy.

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A few examples demonstrate the complexity of the webbing that evolved between banks and non-bank companies in Sa˜o Paulo in the last part of the nineteenth century. Board members of almost every major bank in Sa˜o Paulo either served as directors of the railway companies or owned stock in those companies.21 The Companhia Paulista, the oldest and the largest of the four railway companies, had the deepest relationship with bankers and was closely tied to the Banco do Brasil. In the 1870s and 1880s, three of the bank’s directors as well as its manager were all directors of the Paulista Railway, and six other bank board members were shareholders in the Paulista. One bank board member, Joaquim José de Santos Silva (the Bara˜o de Itapetininga) was the single largest shareholder in the Companhia Paulista Railway.22 Many bank board members sat on the boards of the Companhia Mogiana and the Companhia Ituana railway companies as well. The Bara˜o de Ataliba, a prominent planter and entrepreneur, was both founder of the Mogiana and a director of the Banco dos Lavradores. Another Mogiana director, Joaquim Egydio de Souza Aranha, was a limited partner in the Casa Bancária da Província, a founding partner of the Banco de Sa˜o Paulo, and a board member of the Banco do Comércio e Indústria de Sa˜o Paulo. In all, six of seventeen Mogiana directors were board members of Sa˜o Paulo banks.23 The Ituana Railway was host to board members of many of the same banks. Two of its original creditors, José Estanislau do Amaral and Antônio Paes de Barros (the Bara˜o de Piracicaba), were directors of the Casa Bancária da Província. It shared with the Mogiana the director Joaquim Egydio de Souza Aranha (the Marquês de Três Rios). In all, the Ituana board members also represented six Sa˜o Paulo banks.24 Banks were similarly tied to the other major joint-stock companies of the Empire: public utilities. The water and sewer monopoly and the two urban transport companies all had ties to Sa˜o Paulo banks. The Companhia Cantareira e Esgotos water and sewer company was tied to the Banco do Brasil, at least two other Sa˜o Paulo banks, and two foreign banks. Three of its seven directors were linked to Sa˜o Paulo banks, either as shareholders or as directors. Two members of the fiscal council were tied to banks, one as a shareholder in the Banco Comercial de Sa˜o Paulo and one a director in the Banco de Crédito Real.25 The larger of two urban transportation companies operating in the 1880s, the Companhia Carris de Ferro de Sa˜o Paulo (Sa˜o Paulo Tramway Company), had deposit accounts with the Sa˜o Paulo affiliate of the Banco do Brasil and the Banco Popular, and invested in the Banco de Crédito Real’s mortgage business by holding this bank’s mortgage-backed notes in its investment portfolio.26 Its fiscal council was drawn from board members of

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four banks.27 The smaller of the two urban transportation companies operating in the 1880s, the Companhia Carris de Ferro de Sa˜o Paulo a Santo Amaro (the Sa˜o Paulo–Santo Amaro Tramway Company), had strong ties to the Banco de Crédito Real and the Banco Comercial de Sa˜o Paulo, which ultimately merged in 1890 to form a universal bank.28 The Republican banks continued to maintain ties to the infrastructure and coffee sector but developed extraordinarily broad links within the Sa˜o Paulo economy. The Banco dos Lavradores had ties to the Paulista and Mogiana Railroads and the Companhia Carris de Ferro de Sa˜o Paulo, but it was also tied to the Companhia Industrial Rodovalho (urban real estate development), the Companhia Mac Hardy (agricultural machinery, steam engines, transport equipment), the Companhia Lupton (import/export), and the Companhia Industrial de Sa˜o Paulo (cotton textiles) through director Ismael Dias da Silva.29 Gabriel Dias da Silva, also a director in the Banco dos Lavradores, was the president of the Companhia Industrial de Sa˜o Paulo, a director of Mac Hardy, and held shares in the Companhia Paulista Railroad, Companhia Lupton, and Companhia Industrial Rodovalho.30 The bank’s president, the Bara˜o de Ataliba, was a director of Mac Hardy and the president of the Mogiana Railway Company, as well as a shareholder in Lupton.31 Another baron, Geraldo de Rezende, was a partner in the textile firm Empresa Fiaça˜o e Tecelagem Araraquara.32 The two largest and most successful banks founded in the Republican era, the Banco do Comércio e Indústria de Sa˜o Paulo and the Banco de Sa˜o Paulo, had similarly distinguished and well-connected directors. The Marquês de Três Rios, Joaquim Egydio de Souza Aranha, was a director of both banks, as was the Bara˜o de Piracicaba, Antônio Paes de Barros. Both these men were connected to other Sa˜o Paulo banks as well as the Companhia Central Paulista coffee-processing firm.33 Directors of both banks were tied to the Companhia Oeste Agrícola, a coffee-grower cooperative, the Companhia Industrial Rodovalho, and the Companhia Mecânica e Importadora.34 Banco de Sa˜o Paulo director Carlos Teixeira Carvalho, one of the superdirectors, sat on the board of three public utilities companies, an industrial company that manufactured matches, and the Companhia Mercantil and Industrial, a sugar and distilled spirits company.35 Banco do Comércio e Indústria director Antônio da Silva Prado was director of the chilled beef plant Frigorífico Barretos, the tannery Cortume A´gua Branca, and the glassmaking firm Vidraria Santa Maria. Almost all directors of the two banks were tied to the major railway companies. The social and business ties of Sa˜o Paulo’s new banks, then, placed them inside the modern urban and industrial ventures which were quickly forming after 1890.

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Before 1905, then, we see a fairly dense pattern of webbing that tied banks to non-bank companies. All parties benefited from the supportive regulatory environment provided by the 1890 introduction of limited liability; banks gained access to information about new businesses through the shared members of the directorate, and the presence of bank directors on their boards gave companies an important vote of confidence in a decade of great economic tumult, for it served as a signal to investors that the new companies were being guided by the banking community.

Banking in the Hinterlands As banks proliferated and specialized, forging ties to new business sectors in the 1890s, they also experienced a process of geographic expansion into the hinterland (see Table 6.4). Up to 1889 no bank was founded in any city in the province other than the capital city, Sa˜o Paulo, or the port city, Santos. Several of the major banks had maintained agencies in a single interior town, Campinas, which was the very center of the coffee region in the 1880s, but no bank was headquartered in the interior before 1890.36 The coffee boom and banking boom of the early 1890s changed that concentration by stimulating the formation of six commercial banks in six interior cities of the state by 1892. For the first time, commercial banking was taken out of the export trade centers and placed at the locus of coffee production. This development is indicative of the reliance of formal intermediaries on timely information of good quality. Placing banks in the thick of economic activity satisfied this demand. The expansion of the banking sector into the interior of the state was in recognition of the central importance of coffee production to the economy and of the importance of new agricultural regions to coffee production. The original locus of coffee production, the Paraíba Valley, was already in decline by the time of the late-nineteenth-century coffee boom. Planters, much aided by the extension of the railroads into different regions, moved north and west to plant new trees on more fertile soil. Five of the six interior banks founded in 1891 and 1892 were established in these newer regions of settlement and production.37 No additional legislative reform or incentive accounts for this expansion into the interior, suggesting that it was driven by demand for financial services. The new regions, known as the Central, Mogiana, Baixa Paulista, and Araraquense regions, were all very prosperous at the turn of the century. The Banco de Ribeira˜o Preto, located in the city of the same name, served what was considered at the turn of the century to be the most important

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Ta b l e 6.4 Regional Banks in the State of São Paulo, 1890 –1892 Bank Banco de Ribeirão Preto Banco Melhoramentos do Jaú Banco de Araraquara Banco de Piracicaba Banco Popular de Guaratinguetá Banco União de São Carlos

Year founded Headquarters 1890 1891 1892 1892 1892 1892

Ribeirão Preto Jaú Araraquara Piracicaba Guaratinguetá São Carlos do Pinhal

Region Mogiana Araraquense Baixa Paulista Central Paraíba Valley Baixa Paulista

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years; and Camargo, Crescimento da população no Estado de São Paulo, 1:31–39.

zone of coffee production in the state. The Banco Unia˜o de Sa˜o Carlos and Banco de Araraquara were established in the second most important zone of production and one of the most developed agricultural regions of the state by the turn of the century. And the Banco Melhoramentos do Jaú, representing the newest area of coffee planting, was located in a city that dominated the emerging region’s growing wealth.38 The expansion of the agricultural frontier prompted by the booming demand for coffee, then, sent commercial banking into the countryside to provide financial services to the planters and related industries that were prospering in the late nineteenth century.39 By all accounts, these regional commercial banks were great successes in the 1890s. We know from the discussion of universal bank profits in Chapter 5 that universal banks were consistently outperformed by commercial banks in general. By separating out Sa˜o Paulo city commercial banks from the regional commercial banks, the data show that regional commercial banks were the most profitable of all banks in Sa˜o Paulo (see Table A.2 in the Appendix). In the 1890 –94 period the regional commercial banks outperformed all but one of the city commercial banks for which I have data; in the 1895 –99 period, a time of recession, the regional commercial banks outperformed every single city commercial bank. Some regional banks earned double the profits of their city counterparts. This, then, was a very successful business in the 1890s.

Non-traditional Credit Geographical and institutional expansion, fueled by customer deposits and investment in bank stocks, was a response to the exploding demand for credit after the declaration of the Republic. Most lending was at the short term, as it always had been, but the pace and scope of the demand for other

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chapter 6 Ta b l e 6.5 Investment of Commercial Banking Earning Assets, 1892 –1906 (millions of nominal mil-réis and percent)

Short-term credit City commercial banks Regional commercial banks Universal banks (commercial portfolio) Foreign commercial banks Total short-term loans % by domestic banks % by foreign banks Medium-term credit City commercial banks Regional commercial banks Total medium-term loans Stocks and bonds City commercial banks Universal banks Total stocks and bonds Total earning assets % short term % medium term % stocks and bonds % domestic % foreign

1882

1889

1892

1895

1898

1901

1906

11.3

12.9

62.9 6.6

61.5 8.9

52.0 8.1

56.6 10.0

61.2 3.4

3.2 14.5 77.6 22.4

9.4 22.3 57.8 42.2

16.5 6.4 92.4 93.1 6.9

13.1 12.0 95.5 87.4 12.6

13.8 33.4 107.3 68.9 31.1

3.4 26.6 96.6 72.5 27.5

.04 28.2 92.8 69.6 30.4

2.8 .4 3.2

1.4 1.0 2.4

1.7 1.7

3.2 3.2

8.3 6.2 14.5 110.1 83.9 2.9 13.2 94.2 5.8

7.2 4.9 12.1 110.0 86.8 2.2 11.0 89.1 10.9

4.7 4.7 9.4 118.4 90.6 1.4 7.9 71.8 28.2

5.3 1.7 7.0 106.8 90.4 3.0 6.6 75.1 24.9

14.5 100.0

22.3 100.0

77.9 22.1

57.8 42.2

2.6 1.2 3.8 96.6 96.1 3.9 70.8 29.2

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : See note 40 for the year-by-year list of the commercial banks; includes both foreign and domestic banks.

products was great, and nudged bankers into new areas of credit. Both medium-term lending secured by urban and rural real property and direct investment in new urban commercial and industrial ventures appeared on banks’ balance sheets almost immediately after the relaxation of business regulatory laws in 1890. Whereas commercial bank credit was almost entirely composed of letters of advances and discounts or secured lines of credit under the Empire, Table 6.5 shows that one out of every six mil-réis invested by banks in the Sa˜o Paulo economy in 1892 was in the form of stocks, bonds, and longer-term loans, and represented a significant diversification in forms of institutional credit.40 Most individual bank companies engaged in this nontraditional credit creation in one form or another. Both city commercial banks and the commercial portfolios of universal banks invested in stocks and bonds. In the years surrounding the formation of the Bolsa, when the liberalized regulatory environment stimulated the formation of joint-stock companies, domestic banks invested almost 15 percent of their earning assets in corporate

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stocks and bonds, as well as some government bonds. Sa˜o Paulo banks, then, developed their business interests not just through interlocking directorates but through direct investment in non-banking enterprises as well. Railways figured in the investment portfolios of many banks, especially after 1889. The Banco Popular and Banco do Comércio e Indústria, along with most of the foreign banks—British Bank of South America Ltd., Banco Francês, Brasilianische Bank für Deutschland, and London and Brazilian Bank Ltd.—were listed as shareholders of the Paulista Railway Company in the 1890s and early 1900s.41 Several of these banks, as well as others, held stock in the Mogiana Railway Company during the same period.42 Banks in the 1890s also invested in industrial concerns. The Banco Industrial Amparense, for example, was a shareholder in the Companhia Industrial Rodovalho. The Banco dos Lavradores invested in both the Companhia Mac Hardy and the Companhia Industrial de Sa˜o Paulo. The Banco I´talo-Brasileiro was a founding partner in the Companhia Alimentícia de Sa˜o Paulo e Santos.43 The Banco de Melhoramentos de Sa˜o Paulo gained a major foothold in urban transportation when it bought outright the privileges, trolley lines, workshops, lands, and improvements of the City of Santos Improvement Company Ltd.44 The prominent Italian immigrant Francisco Matarazzo founded the Banco Commerciale Italiano di Sa˜o Paulo in 1900, and the cotton textile factory, the Fábrica Mariangela, in 1904. By 1910, the Mariangela was the largest textile factory in the country.45 Finally, the Banco Mercantil de Santos held stock in the Companhia Mecânica e Importadora, itself a partner in the Empresa Fiaça˜o e Tecelagem Araraquara textile company. Some Sa˜o Paulo commercial banks, then, acted much like New England banks. Some used their bank’s assets, raised from the community at large, to finance targeted industrial ventures. Others used a portion of their earning assets to invest in the stock of diverse companies. The regional commercial banks did not engage in direct corporate investment through the stock and bond market, for which their rural clients had little use. Rather, these banks were the only commercial banks that dedicated earning assets to loans backed by real estate, or hipotecas, by far the most important form of accommodation their clients could receive. Mortgage-backed loans were an unusual credit instrument for short-term lending institutions like commercial banks. This is because commercial banks were not chartered by the Brazilian government as mortgage banks, and therefore did not have the right to issue mortgage-backed notes to finance their loans. Instead, commercial banks had to fund longer-term mortgage loans out of their own sources, the majority of which were short-term deposits. They

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chapter 6 Ta b l e 6.6 Rural vs. Urban Mortgage Lending by Regional Banks, 1892 –1900 (nominal mil-réis and percent)

Rural loans Piracicaba Ribeirão Preto União de São Carlos Total rural mortgages Urban loans Piracicaba União de São Carlos Total urban mortgages Total mortgage loans % rural % urban

1892

1895 –1896

1899 –1900

109,405$

46,890$ 9,374$ 318,195$ 374,459$

100,851$ 1,057,263$ 1,158,114$

150,720$ 26,289$ 177,009$ 551,468$ 68% 32%

17,364$ 17,364$ 1,175,478$ 98% 2%

109,405$ 150,067$ 150,067$ 259,472$ 42% 58%

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years.

ran a significant risk by doing this because depositors could demand access to their funds on very short notice, while the borrowers had a fairly long time horizon to pay back their loan. Should a run occur on the bank, it would be unable to call in the loans in time to stave off failure. In spite of the riskiness of lending short-term sources for medium- to long-term applications, three of the regional commercial banks did just that. These loans were an important part of their relationships to their clients, averaging over 12 percent of earning assets. The absolute size of the loans was not large, but these mortgage loans represented a significant portion of total credit extended by regional commercial banks. For any individual regional bank, real estate loans represented as much as 35 percent of its earning assets. Only one city commercial bank, the Banco Construtor e Agrícola, allocated any earning assets to hipotecas.46 On a proportional basis, some commercial banks dedicated more assets to mortgage lending than did the mortgage banks themselves (see Table 5.5 in Chapter 5). Most of the lending done by these three regional banks was against rural property (see Table 6.6), as we would expect. At mid-decade about twothirds of their mortgage lending was applied in rural investments, and by the turn of the century this proportion had risen to 98 percent. Still, among individual banks the lending patterns varied. The Banco de Piracicaba, for example, lent money against both urban and rural property, with two-thirds of its 1895 portfolio actually going to urban loans. The Banco Unia˜o de Sa˜o Carlos, the largest of the three, similarly wrote both rural and urban mort-

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gages, with an overwhelming emphasis on rural loans, which accounted for more than 90 percent of its outstanding mortgage credit.

Risk and Liquidity The investment by commercial banks in nontraditional instruments like mortgage-backed loans or equity and bonds of non-bank companies reflects the more aggressive style of banking behavior we would expect to see in an economy that was both growing and diversifying rapidly. Regional banks to a greater degree, and city commercial banks to a lesser degree, accommodated the needs of their clients in this changing economy by extending some portion of their available funds in longer-term credit. Extension of longer term credit by these banks was something of a risk, however, for data show that Sa˜o Paulo’s commercial banks were overwhelmingly funded by shortterm sources of funds (see Table 6.3). Prudence required that short-term sources of funds be employed only in short-term credit applications, while longer-term sources of funds might safely be employed in longer-term applications. By extending medium- to long-term credit backed by shortterm sources, as mentioned above, a bank could get into trouble should a crisis occur. This is because this mix of sources and uses reduces the bank’s liquidity, or its ability to convert an asset to cash with minimum delay and minimum loss. If a bank needed to quickly liquidate either stocks or real property to recover a bad debt, its very actions would serve to undermine the value of the asset securing the loan. For this reason, commercial banks traditionally shied away from imbalanced uses of their funds. These new areas of credit creation pursued by Paulista bankers, then, presented them with opportunities but also exposed them to risks. We saw earlier that banks sought to minimize risk by forging links to non-bank businesses through targeted services and interlocking directorates, but banks ultimately minimized risks by keeping credit at the short term. All bank records indicate that after a euphoric several years following the proclamation of the Republic, during which time banks invested in stocks and made hipoteca loans, their predominant business was commercial credit. Once the mid-1890s recession settled in and banks began to contract or fail, survivors scaled back their nontraditional, longer-term credit activities. The availability to planters of alternative forms of finance, such as from coffee factors or other planters, however expensive, meant that banks could ignore the appeals for agricultural credit. The slow pace of industrial development before the 1890s, itself due to seesaw tariff legislation, similarly kept banks insulated

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chapter 6 Ta b l e 6.7 Type of Liquidity Ratio by Bank Group

Type of ratio by bank group Basic liquidity ratio: All banks Ratio of all uses to all sources: City commercial Regional commercial Foreign

Numerator (uses of funds)

Denominator (sources)

advances and discounts

deposits

advances, discounts, stocks and bonds advances, discounts, mortgage loans advances and discounts

deposits, equity, reserves deposits, equity, reserves deposits

from demands for longer-term credit.47 Banks cast themselves as providers of short-term working capital to existing businesses as a product of the poor quality of information. This role was reinforced by three decades of success with their formula. We can assess the risk these commercial banks took in the 1890s by examining their liquidity ratios (see Table 6.7). The liquidity ratio, which expresses the relationship between the sources and uses of bank funds, gives us a sense of how vulnerable that bank might be in the event of a crisis, such as a bank panic, by indicating how many assets it would need to liquidate in order to repay depositors.48 The first ratio asks whether deposits alone were adequate to fund the short-term credit activities typical of commercial banks, while the second ratio asks whether the combination of all sources of funds was sufficient to cover the banks’ nontraditional credit, like mediumto long-term loans and investment in stocks and bonds. In all cases, the higher the ratio, the lower the liquidity. A ratio well below 100 percent indicated that a bank had adopted a conservative lending and investment policy, preferring to keep outstanding credit at levels below total available funds to insure its ability to meet its obligations. A ratio of 100 percent meant that the sources and uses of bank funds were of equal value, or that every available dime of funding had been converted into an earning asset. Such a high ratio was risky because the bank faced the possibility of not being able to meet depositors’ demands for withdrawals.49 While there is no one “right” liquidity ratio, because the need for liquidity varied by bank and has changed over time, we can look to the world’s nineteenth-century bankers—the British—to get a sense of what ratio was considered prudent at that time. Banking historian Philip Cottrell found that London banks at the end of the nineteenth century “preferred to maintain ratios of advances to deposits below 55 percent and their managements be-

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Ta b l e 6.8 Bank Liquidity Ratios, 1890 –1906

Advances and discounts to deposits City commercial banks Regional commercial banks Foreign banks All uses to all sources City commercial banks Regional commercial banks Foreign banks

1892

1895

1898

1901

1903

1906

1.17 1.94 .70

1.02 1.68 .66

.86 1.96 .89

.68 1.71 1.00

.84 .80 1.07

1.08 .87 .87

.78 .89 .70

.73 .83 .66

.65 1.05 .89

.53 .81 1.00

.58 .57 1.07

.71 .68 .87

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : See Table 6.7 for composition of sources and uses by bank group. Foreign banks’ liquidity is the same in both ratios because foreign banks only engaged in short-term lending and received all their funding from deposits.

came alarmed if the ratio rose and remained above 60 percent for any appreciable time.” 50 David Joslin’s history of British banking in South America echoes this sentiment, as reams of communications between home offices and overseas branches cautioned against anything but the self-liquidating loan.51 All banks operating in Sa˜o Paulo had liquidity ratios that far exceeded the preferred London ratio of 55 percent, but the trend was toward improving liquidity and increasing ability to draw on local savings for funding. In the earliest decades of banking Sa˜o Paulo’s banks had operated with liquidity ratios well above 100 percent, and financed this imbalance either through funds from affiliated banks or by going into debt themselves. By the end of the 1880s and throughout the 1890s, however, most Sa˜o Paulo banks comfortably financed the most basic commercial banking operations of advances and discounts through their deposits. As Table 6.3 showed earlier in this chapter, the coffee boom had generated a surplus substantial enough to finance swelling equity investment and deposit accounts in local banks. While all banks tolerated higher ratios and hence, lower liquidity, than the British standard, the foreign-owned banks were the most conservative, whereas the regional commercial banks were the least conservative. This variegation was the product of domestic banks’ attempts to accommodate their new clientele after the 1890 boom. City banks were able to cover their basic short-term credit instruments—advances and discounts—through deposits alone (see Table 6.8), but city banks in the 1890s invested more than before in stocks and bonds, and one of them, the Banco Construtor e Agrícola (formerly the Banco do Brasil), held some mortgage-backed loans. The funding from deposits was not sufficient to cover these, requiring the bank to count on equity and reserves to maintain its liquidity.

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Regional commercial banks were even more strained. Their basic ratio of advances and discounts to deposits was higher, sometimes far higher, than that of city and foreign banks. What is more, they significantly increased the proportion of their earning assets dedicated to real estate loans and barely financed these out of all sources put together. As Table 6.9 shows, several of the five regional banks consistently maintained among the highest ratios of short-term loans to deposits of all banks, indicating that their relative liquidity was low. In a pinch, they would find it more difficult to liquidate their assets to meet their obligations. The tendency of city commercial and regional commercial banks to enter into longer-term applications, counting on equity to cover them, was risky and was an important factor in their demise after 1900. While deposit funding carried the risk that all depositors might demand their money back at the same time, forcing a bank to liquidate its assets, equity funding carried the risk that the bank might find itself dismantled in the case of a run. Then, as now, shareholders stood ahead of depositors in line to recuperate their investment in the case of failure. Newspaper accounts after the turn of the century reported on the progress of shareholder consortia in pulling their investments out of failed banks. While the banks managed loans and deposits for liquidity, that is, their ability to meet depositor demands, investing equity in medium- or long-term applications placed a bank’s capital at risk and therefore risked a bank’s very solvency. The riskier behavior of the regional commercial banks was most likely because these banks were usually the only bank in the biggest city in their respective region of the state. All of these regions were agricultural districts, and all of the cities and towns were undergoing rapid growth in population and physical structure. The pressures by clientele on these banks to move beyond the self-liquidating loan must have been intense. The financial statements of these banks suggest that they obliged these demands, and profited from it. Regional commercial banks were the single most profitable group of domestic banks in the 1890s (see the Appendix). The liquidity ratios, however, betray how precarious their position was.

The Bank Panic of 1900 Come the turn of the century, conservative practices were the difference between survival and failure. The vulnerability of domestic banks in the great bank panic of 1900 was caused by their low liquidity. This was most evident in Rio de Janeiro, where commercial banks holding worthless paper dating

Ta b l e 6.9 Basic Liquidity by Bank, 1893 –1897 regional and city banks 1895

1893 Banco de Piracicaba Banco União de São Carlos Banco de São Paulo Banco Mercantil de Santos Banco de Ribeirão Preto Banco de Araraquara Banco Comércio e Indústria

Ratio 3.00 2.80 1.60 1.20 1.00 .94 .78

Banco Construtor e Agrícola Banco União de São Carlos Banco de Ribeirão Preto Banco de São Paulo Banco Mercantil de Santos Banco dos Lavradores Banco de Piracicaba Banco de Araraquara Banco Comércio e Indústria

1897 Ratio 7.60 1.80 1.40 1.40 1.30 1.30 1.20 1.10 .71

Banco de Piracicaba Banco União de São Carlos Banco de Araraquara Banco Mercantil de Santos Banco de São Paulo Banco Comércio e Indústria

Ratio 3.20 1.60 1.20 1.20 1.00 .51

foreign banks 1895

1893 London and Brazilian Brasilianische Bank British Bank

Ratio .82 .74 .41

Average regional banks Average city banks Average foreign banks

2.30 .96 .64

Brasilianische Bank London and Brazilian British Bank

1897 Ratio .69 .65 .61 1.60 1.00 .66

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : Regional banks are in italics; city banks are in Roman type; foreign banks are at the bottom.

Banque Française Brasilianische Bank London and Brazilian British Bank

Ratio 1.50 .83 .65 .43 1.70 .69 .70

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back to the Encilhamento bubble collapsed under the austerity measures enacted as part of the 1898 Funding Loan. In the course of a decade, banks had been whipsawed by euphoria and expansion, followed by a period of falling exchange rates, collapsing international prices, and reactive government policies. Finance Minister Joaquim Murtinho’s economic policies provoked a strong economic recession that felled eight Rio de Janeiro banks in September and October of 1900.52 Sa˜o Paulo’s banks withstood the immediate shockwaves from the 1900 panic but were not immune to the deflationary conditions that had prompted it. The recession worked away at the foundations of Sa˜o Paulo banking. Between 1902 and 1906, failed banks littered the road, each succumbing at its own pace in a painfully drawn out death spiral. Two banks failed in 1902, one of them the Banco Mercantil de Santos, which, founded in 1873, was the oldest bank in Sa˜o Paulo. Two more banks failed in 1904, and another in 1906, the same year that the universal Banco Unia˜o de Sa˜o Paulo abandoned its banking business to become a full-time industrial corporation. This great collapse is clearly reflected in the equity and deposit values reported by the banking sector (Table 6.3). The amount of equity invested in Sa˜o Paulo’s domestic banks in 1906 was just half the value of the 1901 sector. Deposits, too, fell spectacularly, by more than 28 percent by 1904 and another 4 percent by 1906. All told, the sources of domestic bank funding fell by more than one-third from 1901 to 1906. When the crisis was over and the dust had cleared, just a handful of domestic commercial banks remained in Sa˜o Paulo. The most striking result of the bank panic is that it utterly reversed the position of domestic and foreign banks in the Sa˜o Paulo economy. Where domestic banks had held the lion’s share of deposits and extended the greatest proportion of credit before the crisis and its fallout, foreign banks, by virtue of sheer survival, became the predominant financial institutions after the crisis. Contemporary accusations suggested that the foreign banks provoked the bank crisis in order to profit from it.53 Panics do benefit the survivors, who find themselves in a strong position to absorb the clientele of the failed banks. Indeed, David Joslin’s history of British banking in Brazil concludes that the domestic bank failures had positive consequences for the British banks. Yet foreign bankers denied manipulating the market, pointing instead to their more liquid, conservative banking practices as the reason for their survival. The liquidity of these banks was an important part of the reason why this reversal occurred, as domestic banks operated with a thinner liquidity buffer than did the foreign banks. It was not the only reason, however. For a bank

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Ta b l e 6.10 Foreign Bank Liquidity During the Bank Panic, 1898 –1904

London and Brazilian Bank British Bank Brasilianische Bank Banque Française du Brésil

1898

1899

1900

1901

1902

1904

.85 .59 1.17 1.27

.56 .71 1.71 2.04

.44 1.10 1.73 3.40

.45 2.20 1.58 4.19

.61 1.97 1.95 3.23

.60 3.50 1.59

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e : Liquidity for foreign banks is advances and discounts to deposits.

to fail in a panic, it had to have failed to gain access to fresh funds to cover its obligations. Foreign banks were part of a larger, branch-banking network and therefore did have access to such funds. In a time of crisis, these foreign branches could and did appeal to the home office for an infusion of cash. This access to home funds both acted as a lifeline for the branch and, in effect, served to diversify the bank’s assets, shielding it to some degree from local economic conditions. Brazilian-owned banks, on the other hand, were unit banks, with neither access to branch funds nor to a diversified asset pool. Each domestic bank found itself fully exposed to the Brazilian economic crisis. No bank corporation had a network to fall back on. Instead, these unit banks relied on their cash balances to outlast the recession. This, in fact, is what made the difference in Sa˜o Paulo in the crisis years. Liquidity placed banks in jeopardy, but their access or not to a network meant survival or failure. The combination of these two characteristics proved fatal for domestic institutions and allowed foreign banks, though severely battered, to weather the storm.54 The benefit that foreign banks derived from branch banking is evident when we look at their own very precarious position during the bank crisis. Foreign banks demonstrated a pronounced pattern of rising illiquidity heading into the crisis years (see Table 6.10). This was driven by contracting deposits, not by some new willingness by foreign banks to throw caution to the wind. Three of the four foreign banks suffered significant declines in deposits from 1899 to 1900, and all four foreign banks suffered declines in 1901 and 1902 as well. All told, deposits in foreign banks fell 32 percent from 1899 to 1904, most of the decline taking place by 1901 (Table 6.11). Banks that had almost always been comfortably funded through local deposits were in a jam. By 1900, three of the four foreign banks had lost self-sufficiency, which they failed to regain until 1906, and even then just barely.55 The Banque Française du Brésil, which found its liquidity ratio above 3.0 for three years running, failed. It was the only foreign bank to do so.

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chapter 6 Ta b l e 6.11 Foreign Bank Deposits, Loans, and Cash Reserves, 1899 –1904 (millions of nominal mil-réis and percent)

Deposits % change from 1899 Advances and discounts % change from 1899 Cash on hand % change from 1899

1899

1900

1901

1904

37.9

31.1

26.6

41.1

29.7

26.6

17.2

20.8

13.5

25.6 (32.5) 29.0 (29.4) 10.3 (40.1)

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years.

Foreign banks immediately compensated for the drop in deposits by restricting short-term credit (see Table 6.11). Three of the four foreign banks reduced the volume of advances and discounts in either 1898 or 1899, three contracted credit in both 1900 and 1901, and two contracted credit again in 1902. Not surprisingly, the Banque Française du Brésil contracted its credit the most. Even with year-to-year reductions in lending, however, it was not able to balance its sources and uses. Its deposits had fallen from 2 million milréis in 1898 to under 400,000 mil-réis in 1901. The 40 percent contraction in short-term credit was not enough to counter the more precipitous drop in deposits. In addition to restricting credit, foreign banks quickly moved to increase cash balances. To the extent they could, these banks stocked up on cash in 1899 and 1900 (see Table 6.11). Cash accounts at the foreign banks rose from 17 to 20 million mil-réis in this period, only to be slashed in half by 1904. Cash evaporated at the Banque Française du Brésil and fell by roughly half at the London and Brazilian bank and the Brasilianische Bank für Deutschland. All told, the foreign banks as a group lost 40 percent of their cash. While the three surviving foreign banks recovered from their dramatic imbalance, their liquidity ratios remained far higher than their pre-crisis ranges. Such imbalance, far beyond the traditionally conservative practices of British bankers, could only have been sustained with assistance from outside. At the first sign of trouble, signaled by a rising liquidity ratio, home offices (caixa matriz) infused their branches with cash. The British Bank, in business since 1892, had never listed home-office funds among its liabilities, but in 1900 it received a onetime infusion of cash worth 5 million mil-réis. These funds, a sum greater than the bank’s total deposits, remained on its books throughout the crisis. The Brasilianische Bank für Deutschland, likewise, received an infusion

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of funds when its liquidity ratio worsened from .83 in 1897 to 1.17 in 1898. The Sa˜o Paulo branch, which had always listed home-office funding on its balance sheet, got an immediate 30 percent increase in its funds from the home office in 1898, an additional 71 percent increase in 1999, and another 5 percent increase in 1900. The funds lent to the Sa˜o Paulo branch by the network more than doubled, from 8 million mil-réis in 1897 to 20 million mil-réis in 1901, and were worth roughly two times the value of the bank’s deposits. The Banque Française du Brésil, the only foreign bank to fail, was also the only foreign bank shut off from its network’s reserves. This poor bank watched its deposits and cash balances evaporate and it contracted its credit by 40 percent to compensate, but could not keep up with the hemorrhaging. The home office signaled its unwillingness to commit the funds to the Sa˜o Paulo branch early on. It had extended between 6 million and 8 million mil-réis to the branch in its first three years in business, 1897–99, but when mild illiquidity (a 1.3 ratio in 1898) turned to alarming illiquidity (2.04 in 1899, 3.4 in 1900), the home office pulled the plug. This experience shows that the foreign banks were just as vulnerable to the economic crisis as domestic banks were. They could not restrict credit fast enough to make up for the dramatic drop in deposits, and survived only thanks to cash infusions from their networks. Ironically, domestic banks did not suffer the same contraction in deposits that foreign banks did. In fact, deposits grew for most domestic banks in both the capital city and interior cities between 1898 and 1902, causing domestic banks to expand credit, not contract it. Deposits with city banks, for example, grew about 24 percent between 1898 and 1901, while total short-term credit extended by the city commercial banks grew by almost 9 percent (Table 6.3). These figures would be even higher if we took into account the new commercial bank that formed in 1900, the Banco Comerciale Italiano de Sa˜o Paulo, right in the midst of the crisis. When the deposit contraction came for the domestic banks between 1902 and 1904, however, they experienced the same crisis as the foreign banks had a few years earlier. Contracting deposits placed banks at risk of insolvency, particularly the ones with the riskiest lending practices. While domestic banks stood alone when the crisis hit, with no access to a branch network’s resources to weather the hard times, they could protect themselves against a run by maintaining conservative cash balances. Cash account balances show that individual banks as well as bank groups that survived had historically maintained a conservative ratio of cash to deposits. A comparison of group trends, for example, shows that regional commercial banks had the lowest cash-to-deposit ratios of any type of commercial bank,

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chapter 6 Ta b l e 6.12 Commercial Bank Ratios of Cash to Deposits, 1893 –1903 (percent)

City commercial Regional commercial Foreign

1893

1895

1897

1899

1901

1903

33.3 23.2 57.7

35.8 29.3 63.0

56.4 12.6 41.2

57.8 10.5 45.3

58.4 16.5 50.9

59.9 34.2 39.8

s o u r c e s : Bank balance sheets, Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years.

while city commercial and foreign banks were both significantly more conservative (see Table 6.12). The group with the least liquidity, then, also had the smallest cushion when the crisis hit. The single regional bank survivor from the 1890s and the two new regional banks formed in the early 1900s adopted a much more conservative approach in cash management, most likely in response to the fate of the failed banks. The crisis showed domestic bankers that they had to balance less-liquid applications like real estate loans and stock and bond investments with high cash reserves to serves as a buffer in tough times. The Brazilian bankers took more risks than the foreign banks did in the 1890s, as they responded to the various credit needs of the rapidly growing and diversifying economy. These risks were warranted by the economic scenario of the times, but were exacerbated by the unit-banking structure of the Sa˜o Paulo banking system. When the economy retracted, many banks were caught short on cash with illiquid assets on their books and were eviscerated. By 1906, just three regional banks out of seven founded between 1890 and 1899 survived. Just one of the original city banks founded between 1856 and 1889 remained. Just two additional city banks, out of the dozens that had formed after 1890, survived.

Consolidation The long-term outcome of the great bank panic of 1900 was consolidation in the Sa˜o Paulo banking sector. The most spectacular aspect of this consolidation was the concentration of market share in the hands of foreign banks (see Table 6.13). Although foreign banks had been hit earlier and harder by the 1900 bank crisis, their access to funds from their network allowed them to survive. As a result, the foreign banks captured a large share of the domestic banking business, a share they would not relinquish for twenty years. By 1910, foreign banks had captured half of the banking business in Sa˜o Paulo, and by 1920, foreign banks took almost three-fourths of all deposits and made more than 60 percent of all loans.56

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Ta b l e 6.13 Domestic vs. Foreign Share of the São Paulo Banking Sector, 1906 –1920 (millions of mil-réis and % of total)

Deposits Domestic city banks Domestic regional banks Foreign banks Total deposits % in domestic city banks % in domestic regional banks % in foreign banks Short-term credit Domestic city banks Domestic regional banks Foreign banks Total short-term loans % in domestic city banks % in domestic regional banks % in foreign banks

1906

1910

1914

1918

1920

56.8 2.7 32.3 91.8 65.9 3.7 30.4

86.0 4.9 93.6 184.6 46.6 2.7 49.3

112.2 2.1 107.1 221.4 50.7 0.9 48.4

161.9 6.1 333.8 501.8 32.3 1.2 66.5

247.1 0.0 650.9 898.0 27.5 0.0 72.5

61.2 3.4 28.2 92.8 61.9 2.9 35.2

85.0 4.3 70.6 159.9 53.1 2.7 44.2

112.1 3.1 121.4 236.6 47.4 1.3 51.3

168.8 6.1 269.8 444.7 38.0 1.3 60.7

309.0 0.0 537.2 846.2 36.5 0.0 63.5

s o u r c e s : Figures for 1906 are from Table 6.2, excluding the universal banks. Figures for 1910 –20 are from Saes, Crédito e Bancos, 220, 224, 228, and 230. n o t e : Every single regional bank had failed by 1920.

This great increase in market share has been attributed directly to the bank panic of 1900. The story, told by British banking historian David Joslin, is that British banks mopped up deposit accounts and took over accommodation during bank crises. In relating the accomplishments of the London and Brazilian Bank’s stellar manager, he writes: “[The bank manager, P. J. de Souza] saw the [Sa˜o Paulo city] branch through the critical years after 1892, and when a major run began on all the banks in the city in February 1897 he helped other banks and merchant houses to weather the crisis. . . . During the crisis in October 1900 it again acted as sheet anchor for other banks. On both occasions the branch gained fresh accounts, and the demand for its drafts became even more widespread.” 57 The image suggests that the newly acquired market share by foreign banks was a direct result of the bank panic. Foreign banks, though, were squeezed far more than the literature would have us believe. The data show that foreign banks were under siege. Even the most stable of them all, the London and Brazilian Bank, suffered with the crisis. While the balance sheets for the London and Brazilian Bank show growth in deposits and short-term credit after 1896, just as Joslin says, it is not true that the bank generously absorbed its competitors’ accounts and clients as they rushed to shut their doors. As we saw earlier, domestic banks

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actually increased both their deposits and their short-term loans in the years immediately following the panic. The London and Brazilian’s balance sheets, on the other hand, show it suffered an 8 percent contraction in its deposits from 1900 to 1901 and lost another 20 percent by 1902. Its short-term lending and its cash account both contracted as a result. It survived thanks to its historically very conservative liquidity ratio and an equally conservative ratio of cash to deposits, not because it offered safe harbor to the clients of failing banks. No matter the path to survival, there is no doubt the foreign branching banks emerged from the crisis as the big winners. The surviving foreign banks (British Bank, London and Brazilian Bank, Brasilianische Bank) picked up market share by 1910, and new foreign banks were founded as steadily as the Brazilian banks had failed. These banks and their founding dates included Banca Commerciale Italiana (1907), the Banca Francese e Italiana per l’America del Sud (1910), the Banque Bresilienne Italo-Belge (1911), the National City Bank (1912), the Banque Française pour le Brésil (1913), the Banco Allema˜o Transatlântico (1914), the Banco Hollandez da America do Sul (1917), the Banca Italiana di Sconto (1919), and the Royal Bank of Canada (1920). The foreign banks almost doubled their market share for deposits and significantly increased their loans as a result.58 The second characteristic of the post-panic period was the consolidation of domestic banking into a few large banks. While dozens of city commercial banks had formed in the early 1890s, just three city banks survived the contraction, and only one new domestic bank formed by 1920. As a result of the bank crisis, the domestic bank group after 1906 was characterized by a small club of very large institutions. One of these survivors, the Banco do Comércio e Indústria de Sa˜o Paulo, was already among the biggest banks in the 1890s but became positively huge after the bank crisis had passed. Its equity had accounted for between 20 to 25 percent of city commercial bank equity before the crisis, but alone grew to more than one-third of total domestic bank equity during the crisis. So sound was this bank that in the deepest year of the crisis, 1901, and before any of the bank failures took place, it had gone to the market and doubled its capitalization. The failures of its domestic competitors enhanced its dominant position. The size of the Banco do Comércio e Indústria de Sa˜o Paulo, and the fact of its survival, ensured that it would capture the greatest share of the Sa˜o Paulo domestic commercial banking business in the post-crisis years. In 1904, four out of every five mil-réis deposited in a city commercial bank, and one out of every two mil-réis deposited in any bank, was in the Banco do Comércio e Indústria de Sa˜o Paulo. These resources gave it incredible

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leverage over credit in Sa˜o Paulo. Almost 40 percent of short-term credit came from the Banco do Comércio e Indústria de Sa˜o Paulo. The next largest domestic bank in the state, the Banco de Sa˜o Paulo, capitalized at 5 million mil-réis to the Banco do Comércio e Indústria de Sa˜o Paulo’s 10 million mil-réis, took in just 12 percent of all deposits and extended about 15 percent of all short-term credit. Just one additional commercial bank, the Banco Comercial do Estado de Sa˜o Paulo, formed in the intervening years, ensuring that the Banco do Comércio e Indústria de Sa˜o Paulo would remain dominant among domestic-owned banks. In 1920 it still took in one-half of all deposits in domestic banks and made one-third of all loans originating in domestic banks. In fact, the Banco do Comércio e Indústria de Sa˜o Paulo recorded the most loans of any bank in 1920, foreign or domestic, and was second in total deposits behind a French bank.59 The third characteristic of the post-crisis domestic bank sector was the introduction of branch banking. The hardiest had survived, and took from the crisis the important lesson of minimizing their reliance on pinpoint funding sources. These few native banks that survived expanded aggressively throughout the state, covering all the economically important interior cities. The Banco de Sa˜o Paulo moved into Sa˜o Carlos, Ribeira˜o Preto, and Jaú, most of these towns having lost their regional banks. The Banco do Comércio e Indústria de Sa˜o Paulo, already in Santos and Campinas, opened a branch in Ribeira˜o Preto after the dust had settled. The new domestic banks followed suit. The Banco Commerciale Italiano di Sa˜o Paulo, formed against all odds in the thick of the bank crisis, established branches in five interior towns and in Rio de Janeiro. The Banco Comercial do Estado de Sa˜o Paulo, formed in 1912, had branches in eleven interior towns. While these branch networks still were predominantly restricted to the state of Sa˜o Paulo, limiting somewhat their ability to diversify their asset pool and therefore their risk, they gained some measure of funding flexibility compared to their days as unit banks. The final characteristic of the post-crisis banking sector was the dominance of short-term credit. The failed domestic banks had been the institutions that were most aggressive or adventurous in their lending, some offering medium-term credit destined to real estate development and others investing in company stocks and municipal and state bonds. The largest surviving domestic commercial bank, the Banco do Comércio e Indústria de Sa˜o Paulo, continued to invest in stocks and bonds, and the new mortgage bank and the Banco de Crédito Hypotecário e Agrícola do Estado de Sa˜o Paulo had brought in new mortgage lending that at its peak accounted for almost 17 percent of domestic bank credit.60 But the other two domestic

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banks, Banco de Sa˜o Paulo and Banco Comercial do Estado de Sa˜o Paulo, exclusively lent at the short-term, and foreign banks now contributed the majority of all credit. With the post-crisis consolidation and the overwhelming dominance of foreign banking in Sa˜o Paulo, then, came the triumph of conservative, short-term credit.

The Institutionalization of Business Finance Sa˜o Paulo certainly lost something of value with the collapse of domestic banking after 1900, but the bank crisis and subsequent consolidation mask an important institutional development: the domestic banks in operation after 1906 had become true impersonal institutional intermediaries. This was critical to economic development because it reduced the importance of personal connections in obtaining access to capital. With impersonal intermediation an entrepreneur needed to have a good idea and a sound business plan, rather than some personal connection to a financier. The banker, in turn, was more likely to act on business-embedded ideas rather than the insider information or signaling that the interlocking directorates provided. As we saw in Chapter 3, technology by the end of the nineteenth century was increasingly expensive to acquire, putting it out of the reach of family or kin finance. The closer developing nations drew to the twentieth century, then, the more critical access to capital became. Impersonal access to capital was the ideal condition to foster structural change and development. The motive force behind this final shift to impersonal intermediation in Sa˜o Paulo was the bank crisis of 1900. This crisis introduced such stress to the bank sector, first through the spiraling bank failures and then through the rapid formation of unknown foreign banks, that it undermined the ability of personal networks to provide the information required for the smooth functioning of transactions. Directors and investors on both sides of the equation—bank and client—had suffered hard times in the late 1890s and in the crisis years, shifting and undermining the potency of their relationships. When personal connections no longer work, according to the economic sociology literature, economic actors will turn to some other means of trust production. In the United States, research shows that under conditions of rapid change actors turned to institutions.61 In Sa˜o Paulo, evidence from shareholder lists and boards of directors points in this same direction. Banks after 1906 were far less likely than their predecessors to form personalistic ties to other companies.62 Evidence on webbing among investors and boards of directors shows that the overall incidence of webbing fell from about one-in-three directors to about one-in-six, but that the decline in ties

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Ta b l e 6.14 Webbing Between Bank and Non-Bank Companies, 1856 –1920

Total multiple links, 1856 –1905 Total directors and shareholders identified Total multiple links, 1906 –1920 Total directors and shareholders identified

No. of individuals linked to two or more companies

% of total identified

Non-bank companies and banks

% of all multiple references

167

32%

103

62%

519 146

17%

38

26%

848

s o u r c e s : Shareholder and director data were culled from a large number of primary and secondary sources; see note 18 for a detailed list of these sources.

to banks was even more dramatic (see Table 6.14). Before the bank crisis, the most likely connection between any two companies had been between a bank and a non-bank company, as entrepreneurs very consciously sought out some direct personal connection to a financial institution. After the crisis, just one-quarter of all intercompany links involved a bank. The fact that one-quarter of intercompany ties were between banks and a non-bank company means that webbing did not completely disappear. Yet this was a low incidence when compared to a contemporary population— immigrants—for whom personalistic relationships still predominated in business. If we separate out immigrant-owned banks and non-bank companies from our pool, we find that foreign entrepreneurs maintained a significantly higher degree of webbing after 1905 than did native, Brazilian-owned enterprises. The immigrant community was so recently formed that it still relied on personal relationships to obtain business finance. Its community smaller, immigrant bankers and entrepreneurs found safety in ethnic contacts and shared cultural practices. As a result, Italian and English businessmen continued to work in these more personal, process-based relationships, even as Brazilian businessmen turned to institutional forms of trust. The difference between the total universe of companies and the subset of Italian companies is particularly striking. In the fifteen years between 1906 and 1920, records show that about 25 percent of all companies were directly linked to some bank in São Paulo through a shared board member or a shared investor, or a kin link between directors (see Table 6.14). In those same fifteen years, this same relationship was present in 80 percent of all Italian companies.63 Four out of five Italian companies were linked to a bank— specifically to an Italian bank. If we look at superdirectors, those directors

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chapter 6 Ta b l e 6.15 Comparing Degrees of Webbing, 1856 –1905 and 1906 –1920 Linked to two companies

1856 –1905 % of total 1906 –1920 % of total

89 53% 101 69%

Linked to Linked to Linked to three four five companies companies companies 30 18% 21 14%

15 9% 13 9%

13 8% 7 5%

Superdirectors, >5 links

Total with multiple links

20 12% 4 3%

167 146

s o u r c e s : Shareholder and director data were culled from a large number of primary and secondary sources; see note 18 for a detailed list of these sources.

and shareholders with more than five companies to their name, we see the same trend. In the period 1856 –1905, 20 directors out of a pool of 167 directors with multiple links had links to more than five companies (12 percent), but just 4 directors out of the 146 with multiple links in the period after 1906 were tied to more than five companies (3 percent). (see Table 6.15) Three of these four were prominent Italian entrepreneurs and bankers. This decline of the superdirectors in the general population was accompanied by an increased specialization of the shareholders and directors with multiple links. In the first period, 1856 –1905, the most common link between any two companies was between a bank and a non-bank company. These connections accounted for 39 percent of all directors and shareholders linked to two companies (see Table 6.16). A director or shareholder linked to two companies within a single sector was the second most common connection, or 30 percent.64 In the period after the banking crisis, the intrasector link became the most important of all connections. Fully 45 percent of links between two companies occurred within a single sector, like textiles or electrical utilities, while a director or shareholder link between a bank and a non-bank company became the least likely connection. After 1905, investors and directors were no longer using their connections to develop financial ties but rather used these connections to develop expertise within a specific business sector. Comparison between native and immigrant bankers and entrepreneurs shows that the majority of the entrepreneurial and financial community in Sa˜o Paulo was moving away from the highly personal connections between companies after 1906, when the economy took off thanks to the coffee price-protection program. The exception was the Italian community, which was behaving just as Brazilian entrepreneurs had in the 1880s and 1890s,

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Ta b l e 6.16 Directors and Shareholders Linked to Two Companies, 1856 –1920

Links between one bank and one non-bank company Links between two sectors, excluding banks Links within the same sector, non-bank Links between two banks

1856 –1905

1906 –1920

39% 22% 30% 9%

16% 37% 45% 2%

s o u r c e s : Shareholder and director data were culled from a large number of primary and secondary sources; see note 18 for a detailed list of these sources.

spreading their investment capital and expertise to other entrepreneurs of their cultural and ethnic group. Interestingly, they also created webbed connections to Brazilian-owned businesses. In the few cases where they did, they sat on the boards with the most prominent men in Sa˜o Paulo. In webbing to these very big fish, the Italians presumably sought to break into the entrepreneurial elite and to signal to the larger investing community that they were worthy of trust and financing. Gail Triner argues that the consolidation of impersonal trust-producing mechanisms in both banking and non-bank business finance was enhanced by the Banco do Brasil, reorganized in 1906 as a profit-seeking commercial bank that also performed central-banking functions. While this was undoubtedly true throughout Brazil, particularly in the second and third decades of the century, it does not appear to have been the initial impetus behind the shift to impersonal financial intermediation captured here. The rise of impersonal trust in Sa˜o Paulo predated the dominance of the Banco do Brasil in national capital markets, which Triner links to its establishment of branches throughout the country in the 1910s and the beginning of its rediscounting facilities in 1915. And while the Banco do Brasil was the only bank chartered to operate nationwide, she shows that transfers from the Federal District to other markets accounted for a small fraction of total bank credit and had the greatest impact on regions that had little or no established banking services.65 The transition to impersonal finance in Sa˜o Paulo, then, occurred independently, as a local solution to a local crisis. The final transition from personal to impersonal financial intermediation was a positive outcome in a period that was hard on domestic banking institutions. The Republican reforms that did so much to spark business formation also had given domestic bankers an opportunity to gain ground on their foreign competitors. Many of these dozens of new domestic banks expressed an interest in an urban clientele, while regional banks formed to serve the secondary cities of Sa˜o Paulo. These domestic banks ventured be-

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yond traditional short-term credit into medium-term real estate lending and equity investment in non-bank firms, taking risks to accommodate the credit needs of the diversifying and urbanizing economy. The reliance on local sources was both a triumph of the coffee economy and the Achilles’ heel of the Sa˜o Paulo banking system. That so many resources were available and put to productive use testifies to the great wealth generated by coffee and its attendant commerce. The fact that all these institutions were formed at unit banks, however, caught them short when the bank crisis of 1900 hit. The lack of access to a network’s funds doomed most domestic banks to failure. These failures allowed the more conservative foreign banks to capture a growing share of the Sa˜o Paulo credit market and left domestic banking in the hands of a few large domestic banks. The surviving domestic banks emerged from the 1900 crisis with a much smaller share of the banking business, but they also emerged transformed. Domestic banks adopted a branching format to provide themselves with greater stability in times of crisis. More important for economic development, these banks completed the transition from highly personalistic companies that relied on shared directors to ameliorate the risks in an era marked by political and economic turmoil to impersonal institutions in which those long-standing ties apparently no longer mattered. This decline in webbing signified a maturation that has, in other historical cases, been important for long-term growth and structural diversification. The transition from personal to impersonal institutions, so critical for economic development, was the silver lining in an otherwise devastating banking crisis that appeared to reverse many of the gains made by banks in domestic finance in the Republican era.

Chapter 7

Conclusions

The growth and development of Sa˜o Paulo’s financial system provides clear evidence that institutions matter a great deal in economic development and that institutions do not naturally arise to meet some demand in the marketplace. Much is made in the literature of the importance of German investment banking to late industrializers, but this was not easily transplantable (Italy, France) nor always necessary (United States). Personalistic financial intermediaries can be activists in the development process (U.S. Northeast, early modern France), but reliance on personal connections can just as easily produce a stunted financial system of limited usefulness to economic development (Mexico). It is easier to tell what might limit the effectiveness of financial system development (cronyism, unit banking) than what will stimulate its full expression. Politics, policies, laws, and regulations play an important role in promoting or stunting their development, yet not always in expected or predictable ways. And where financial institutions do arise, history does not anoint one as being superior to another. In the case of Sa˜o Paulo, regulators were effective at suppressing financial-sector development but not as effective at legislating its expansion. Unlike the European or U.S. experiences, Sa˜o Paulo’s Bolsa mattered more to diversification and development than did its banks. And within Brazil, Sa˜o Paulo’s financial-sector development experience was substantially different from the national one. Case studies like this one help identify how, when, and in what ways financial institutions promote economic development. 187

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This research on Sa˜o Paulo’s capital markets shows that they underwent a profound process of institutional development over the second half of the nineteenth century, stimulated by international economic expansion and domestic business formation. Finance in 1850 was available from merchants and moneylenders only, as just a few banking institutions existed in all of Brazil and none in Sa˜o Paulo. By 1920, business finance was available from dozens of banks and two Paulista stock and bond exchanges. This evolution swept aside a reliance on personal connections and restrictions on the scale of borrowing. The creation of institutional intermediaries increasingly provided access to finance to a wide range of entrepreneurs and businesses and was critical to Sa˜o Paulo’s urbanization and industrialization at the turn of the twentieth century. This institutional development was the product, direct and indirect, of government regulatory policy. The Brazilian government held the ultimate authority to permit or discourage business formation, and alternated between the two during this entire period. The imperial government decided against fostering banking and domestic enterprise more often than not, but even in its most restrictive days provided clear rules for businesses to interact. The Commercial Code of 1850 and the joint-stock laws of 1849, 1860, and 1882 probably discouraged more business formation than they encouraged, but they reduced a fair amount of uncertainty by laying out the procedures for incorporation, the standards for exchange, and the protections for investors in the case of failure. The commercial banks were the first formal intermediaries to organize and provided the principal financial safety net throughout Sa˜o Paulo’s development. Few at first, closely held, willing to invest only in known or related enterprises, and mimicking personal financial intermediation in an institutional form, these banks multiplied, diversified, and flourished. They gave a growing and diverse urban population a place to put its savings for short-term rewards through deposit accounts and used those deposits to give the business community liquidity. The banks, in their way, performed feats of magic every day, transforming a promise to pay on the delivery of goods into tangible cash. They took items of value not easily traded and turned them into lines of credit to be drawn upon as needed. They turned reputation into loans by accepting the good name of signatories for promises of repayment. The financial caution of the Empire was replaced by exuberance with the 1889 declaration of the Republic. The Republicans, far more progressive than their predecessors, reformed bank laws and business regulatory legislation as one of their first acts of governance. Their reforms swept away im-

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pediments to business formation, the most important being unlimited liability, and prompted a real business boom. Hundreds of new businesses formed, most of them to serve the urban areas which were growing throughout the state. Of these new businesses, dozens were domestic banks. These financial institutions overtook foreign banks in the 1890s to become the major destination for depositors’ savings and the major source of borrowers’ loans. These domestic banks do not appear to have lent funds to industry on a large scale, but they did lend short-term credit and their own reputations to the newly expanding world by seating their directors on the boards of urban commercial and industrial companies. And many of the domestic commercial banks that now dominated, especially those in the capitals of the hinterland, took risks to offer their clients longer-term finance than they had in their early decades or than foreign banks ever did. These new businesses that relied on banks for working capital benefited directly from the most important institutional innovation of the late nineteenth century: the stock and bond exchange. The Bolsa formed, failed, and formed again in the 1890s, a testament to the resonance of the joint-stock format with the business community. When economic health returned after 1906, this institution turned out to be crucial for the long-term development of the Sa˜o Paulo economy. Entrepreneurs and municipal governments throughout the state electrified cities, built water and sewer networks, and installed urban transportation systems thanks to stocks and bonds issued through the Bolsa. Urban firms engaged in everything from food processing to leather tanning to metalworking to urban construction raised finance through the Bolsa. This stock and bond exchange permitted the formation of companies by entrepreneurs who lacked the social or business connections required for bank finance, and permitted the formation of companies larger than family or community savings could have funded. A surprising characteristic of this thriving market is that it did not appear to sustain itself as the primary locus of capital formation over the course of the twentieth century. Although the Sa˜o Paulo Bolsa today is the premier stock and bond exchange in Brazil, it listed just 574 companies in the early 1990s, a mere three and a half times the number of companies as it did in 1917. New issues are rare, and trading is highly concentrated among a handful of stocks. Relative to the economic development that occurred, and relative to the importance it bore to the economy in the pre-World War I era, the market appears to have seriously slumped. The vast contrast between the modern Bolsa and that of the early twentieth century supports the view that the development process is neither smooth nor uninterrupted. In the case of Sa˜o Paulo’s Bolsa, it appears that a

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confluence of positive macroeconomic conditions coupled with demographic-stimulated growth in domestic demand and a pool of eager investors created a type of financial Big Bang. In the span of a decade this securities market produced a large, publicly funded industrial sector around the capital city, and provided secondary cities with the infrastructure to support the investment in or modernization of their own industrial and commercial pursuits. The ability of the largest of these companies to withstand the market contraction of the war years insured that the Bolsa had a lasting effect on economic development. Ironically, a stock market was not envisioned by the government policymakers. The Bolsa formed initially as a private organization of brokers who set their own rules and regulations about when and where to meet. Laws regulated brokers to establish uniform practices and procedures for the profession, but brokers organized themselves into the Bolsa in a private market reaction to the rapid growth in joint-stock companies after the regulatory reform in 1890. They founded the Bolsa in an attempt to handle the flood of new stock issues and the demands of new investors. When the city of Santos underwent its own economic expansion, brokers founded another Bolsa there. Government legislation promoted business formation but was not directly involved in the creation of the Bolsa. When the government did try to legislate development, it did not get the response it hoped for. The bank reform of 1890, which sought to promote universal banking, failed to attract many takers. Only three universal banks formed, and only two of them actively engaged in long-term lending. Both the Banco de Crédito Real and the Banco Unia˜o de Sa˜o Paulo provided significant amounts of long-term credit to Sa˜o Paulo agriculturalists and industrialists in the 1890s, but these banks never made much money doing so. Low profits, driven by long-term exposure in a recessionary economy, gave neither the universal banks nor their clients much cushion when the bank panic hit. The Banco de Crédito Real went bankrupt, and the Banco Unia˜o de Sa˜o Paulo thought its industrial investments might provide a more successful line of business. It was right. The Banco Unia˜o de Sa˜o Paulo became Votorantim, one of the most important industrial conglomerates in Brazil today. Commercial banks, benefiting from new policies regulating joint-stock companies, formed by the dozens after 1890 and, unlike universal banks, thrived. They had dominated the banking sector before the 1890s and were the most enduring credit institutions through the early urbanization and industrialization of the region. Their predominance over universal banks was assured by higher rates of profitability. One clear indicator of their success

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was the fact that there was almost continual business formation in the commercial banking sector. Banks formed and failed, but other banks formed in their wake. Investors were willing to fund new commercial banks even in the midst of the 1898 –1902 recession because commercial banks offered high potential returns to their investors. The robust nature of the Sa˜o Paulo commercial banking sector is further evidenced by the fact that it did not collapse in the great bank panic of 1900. At a moment in Brazilian history when the money supply contracted by one-fourth and depositors were rushing to withdraw their savings from their banking establishments, deposits in Sa˜o Paulo banks actually rose. A decade of expansion, specialization, and diversification almost came to an end under Finance Minister Murtinho’s reforms. His deflationary policies caused the bankruptcy of almost half of the Brazilian banking system, his consumption taxes harmed business profitability, and his focus on revaluing the exchange rate hurt both industrialists and agriculturalists by making imports cheaper and exports more expensive. Businesses failed, planters defaulted, and banks became saddled with nonperforming loans and eventually went bankrupt. Even then, bank failures can be attributed to some degree to the banks’ institutional format. Domestic unit banks did not have access to fresh funds that might have staved off collapse. Branch networks offered foreign banks a lifeline and ensured their survival, even though they were in a more dire position than their domestic competitors. Institutional form, then, mattered a great deal in the bank panic. The irony of this economic meltdown is that it originated under the watch of Finance Minister Rodrigues Alves (1894 –98), a prominent Sa˜o Paulo planter who would become president of the Republic in 1902, and executed during the administration of another prominent Paulista, Campos Salles. Far from simply pandering to coffee growers by protecting the interests of the landed elite over those of domestic producers, the Republican leadership pursued policies to enable it to meet its foreign debt obligations. Pragmatism more than ideology drove the devastating policies of the Murtinho ministry, but Murtinho’s antipathy toward domestic endeavors was unmistakable. Even these policies, which were as hostile a set of policies as the domestic economy had seen in the entire nineteenth century, had some unintended consequences for economic development, however. The assault on planter incomes caused the Sa˜o Paulo state government to implement a plan to support coffee prices and protect coffee wealth, which stimulated almost a decade of domestic business expansion. And the collapse of the bank sector, while very bad for eliminating risktaking bankers, rendered unwork-

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able the old personalistic ties that persisted in institutional banking. The domestic banks emerged from the crisis transformed into true impersonal intermediaries. What Brazilians at the turn of the century learned from the early Republican stimulus policies and Murtinho’s later recessionary policies was that while government policy could quite effectively reverse economic development, it was much more difficult to promote it. Short of direct intervention through state-owned financial institutions, a path the Sa˜o Paulo government would ultimately take in the 1920s, all a government can do is establish an environment conducive to its economic policy goals and hope that entrepreneurs respond. This it tried in 1890, with mixed results. The government did not foresee or try to promote a stock market. This institutional development was the happy result of the limited-liability legislation. In a demonstration of considerable innovation, the Republican government did try to promote the universal bank. In spite of its best efforts, however, very few bankers responded to the call. Those that did probably regretted their enthusiasm because they had trouble making a profit and spent most of their life under economic siege. This episode alone shows how unpredictable the development process can be. The Brazilian government did exactly what development economists would have prescribed at the institutional level, but it also generated the larger macroeconomic uncertainties of the 1890s that worked against its plans for the domestic economy. It was up to investors and entrepreneurs to respond to the policy stimulus, and, with reason, they did not. The commercial banks that developed, failed, and regrouped from 1890 to 1920 were not the types of investment-oriented intermediaries envisioned by the government, but they provided many important and even essential services to the Sa˜o Paulo economy. By accepting deposits, they created an investment opportunity for the small savers in this large regional economy. By discounting commercial bills, they offered liquidity to facilitate the circulation of goods and services. By extending guaranteed lines of credit, they provided working capital to existing business. By creating a network of professional connections through interlocking directorates, they acquired information and signaled the creditworthiness of businesses. By creating affiliate relationships with other banks and, ultimately, branch networks of their own, they created a seamless regional market. And by generating good returns for their investors, they signaled their own creditworthiness and attracted new capital to the sector. In other words, although they did not provide the long-term finance typically required for economic diversification and development, Sa˜o Paulo’s banks offered its business com-

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munity many of the services typically ascribed to universal banks, themselves considered the quintessential development bank. Over time, these financial institutions completed a transition from highly personal to predominantly impersonal relations. The stock exchange was from the beginning the most impersonal of markets, one that allowed entrepreneurs to take their good idea to the market and raise capital from interested investors. The existence of a secondary market for company shares, at times quite active, allowed shareholders to liquidate their investment in a corporation, either to place their bet on another company or to use their savings in some other economic endeavor. The liquidity that the market provided to investors, combined with attractive returns, helped it become the most important financial institution in Sa˜o Paulo’s economic diversification up to World War I. Banks provided a personal complement to this institutional development because of their continued reliance on knowledge of guarantors and their practice of lending out their directors to non-bank firms. When individuals relied on direct personal contact with financiers to raise capital, development was conditioned on the happy coincidence that people with good entrepreneurial spirits and technological know-how happened to be the relative or neighbor of a financier. But if those two types of people so important to the development process did not know each other, then development could not take place on a large scale. But by the turn of the twentieth century these practices had largely fallen away and banks took their modern form. The exceptional case of webbing within the Italian entrepreneurial community after 1905 brings into sharp relief just how far native business finance had come in a few decades. The joint-stock company format became increasingly common over time and experienced a veritable boom up to World War I. At this same time, the possibility of knowing your personal banker was receding because of the massive bank collapse and consolidation after 1905. The domestic banks that survived the ordeal had successfully completed the metamorphosis from personal to institutional finance that has been crucial to development in the modern day. Finally, it was native capital that accomplished this institutional and economic development. Foreign capital dwarfed domestic capital in volume, but it was very narrowly targeted to a couple of types of businesses in the capital city of Sa˜o Paulo. By comparison, hundreds of joint-stock companies, dozens of them banks, were formed by Brazilian entrepreneurs with capital raised from Brazilian investors. These companies included some of the largest industrial companies in the country, companies whose funding requirements were far beyond traditional kin-based or community pools of

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capital. These domestic companies, moreover, were spread throughout the state. The utilities, industrial, and commercial firms were located in most major cities throughout Sa˜o Paulo and contributed to the region’s broadbased diversification and growth. Municipal bonds, issued and traded on the Bolsa, contributed to this development by financing urban improvements throughout the state. Universal banks, however briefly, offered investment capital to both the traditional and the modern sectors of the economy by turning real property into liquidity. Commercial banks were willing to take on more risk to serve their clients than foreign banks were, particularly in Sa˜o Paulo’s secondary cities. Virtually every aspect of Sa˜o Paulo’s legendary economic transformation was funded by native capital raised and distributed by Sa˜o Paulo’s banks, brokers, and Bolsa.

Appendix

Profits

Analysis of bank profits from the first available financial documents (1884) to the post–World War I years (1920) shows that the commercial banks that lent money at the short term were significantly more profitable than the universal banks that lent money at the long term. This profitability profile held up, both in terms of profits at the individual bank level and in returns to investors in these banks.

Evidence and Method The body of evidence used to generate bank profits is of two principal types. The first is semiannual financial statements of publicly held banks. These financial statements include balance sheets and profit-and-loss statements filed with the Treasury Department of the Province of Sa˜o Paulo from 1865 to 1889, and printed in local newspapers from 1890 to 1920.1 These documents provided either actual earnings statements or statements bearing account information which allowed me to construct profit estimates (see Figures A.1 and A.2). The second type of data includes stock prices for Sa˜o Paulo’s banking enterprises and price and dividend data on a number of government bonds traded through private brokerages and on the Sa˜o Paulo Exchange.2 These data were culled principally from business journals and local newspapers and provided the key elements for the calculation of external rates of return to investments in banking enterprises.3 The sample analyzed here includes six joint-stock Sa˜o Paulo banks for the period 1885 – 89, fifteen joint-stock banks for the period 1890 –1905, and four joint-stock banks for the period 1906 –20. The sample banks were selected on the basis of available documentation.4 The three major newspapers of the era, the Correio Paulistano, the Diário Popular, and the Estado de Sa˜o Paulo, were thoroughly searched for financial statements of all banks operating in both the city and state of Sa˜o Paulo. Any bank that yielded at least three semesters of statements was included in the sample. All six domestic joint-

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stock banks operating in the first period, fifteen of the twenty-eight domestic joint-stock banks operating in the second period, and four of the ten domestic joint-stock banks operating in the third period met this criterion. The sample banks represent the lion’s share of the domestic banking sector’s total assets. As a general rule, those banks left out for lack of sufficient statements were of significantly lower capitalization than those included. For example, in the 1890 –1906 period the largest banks left out of the sample were about the same size as the smallest banks included in the sample; in the 1907–20 period the sample includes just four of ten domestic joint-stock banks, but these banks attracted more than 90 percent of total equity invested in the ten banks. The exclusion of the smaller banks from the sample certainly biases the sample in the direction of larger banks, but the overall sample includes banks of a broad array of sizes, from the small regional banks that never surpassed two million mil-réis in assets to the largest banks worth upward of ninety million mil-réis.5 My reliance on published financial statements to construct the sample produced two limitations. First, there are no privately owned banks in this study. For many years, all joint-stock companies were chartered by the Brazilian government and, as a condition of their charter, were required to publish their financial statements. Private banks, however, were not chartered by the Brazilian government and therefore were not required to file or publish their financial statements.6 Data for these banks, then, are rare. Second, foreign banks could not be included in the sample. Foreign banks were chartered by the Brazilian government and were therefore required to publish their balance sheets, but they were owned and traded on foreign stock exchanges and therefore provided only abbreviated statements to the Sa˜o Paulo press. Key elements needed to assemble measures of profitability, such as owners’ equity, dividends, and retained earnings, were absent from the financial statements, making their inclusion impossible. The absence of private banks from the sample does not appear to be important. Private banking houses had comprised about half of the small number of banking establishments in operation during the early decades of banking, but their importance had waned by the early 1880s. Publicly held banks dominated the sector thereafter.7 The absence of foreign banks from the sample, however, is more significant. The foreign banks contributed almost 20 percent of the bank sector’s assets in the 1880s, and contributed between 25 percent and 35 percent of the bank sector’s assets in the period from 1890 to 1905. The serious crisis in the banking sector at the turn of the century left the domestic banks debilitated but left the foreign banks standing. In

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1906, foreign and domestic equity in Sa˜o Paulo’s bank sector was roughly equal. By World War I, foreign capital had grown to overshadow domestic capital by a factor of four to one. There is no way to compensate for the lack of useful information on the foreign banks’ balance sheets. This study, however, investigates the question of why domestic financial institutional development followed a commercial path. Therefore, analysis of the profitability of publicly held domestic banks is the appropriate test. Methodologically, I measured the profitability of banking from two approaches: internally, as an enterprise, and externally, as an investment. My purpose was to produce complementary results that would fully capture the performance of individual banking institutions. Presumably, the profitable application of assets would translate into rewards for investors who had risked their capital. To measure the success of a bank as a business, I calculated its return on equity. I gathered the balance sheets and profit-and-loss statements for every semester they were available. Each bank considered “earnings” to include certain accounts, which sometimes included taxes on dividends and directors’ honoraria, and other times included just dividends and retained earnings. In order to standardize my treatment of the sample banks, and to estimate income for banks that did not publish profit-and-loss statements, I applied a standard definition of earnings to all banks. This included declared dividends plus changes to reserve and undistributed profits accounts. In cases when I had non-consecutive financial statement and no profit-and-loss statements, I estimated earnings by assuming that the changes to the reserve funds and undistributed earnings accounts occurred evenly across time.8 I divided this definition of profits by shareholder equity (paid-in capital plus reserves). To measure the attractiveness of a bank as an investment, I calculated the returns paid to shareholders. Here, I used dividend payments in a given year measured against the year-end market value of the stock. I performed the same calculation on four separate government bond issues through the period to see how bank stocks performed relative to a low-risk investment alternative and to assess the relative risk of investing capital in bank stocks. Finally, I calculated the total return investors earned in bank stocks. This measurement included dividend payments and appreciation in the price of the stock. I then performed the same calculation on the four bonds to evaluate the relative attractiveness of investing in these two types of instruments.

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Return on Equity 1880 – 1889

The figures for bank profitability in the 1880s demonstrate that the institutional expansion of the Sa˜o Paulo banking sector from two domestic banks before 1880 to seven by 1889 was accompanied by solid profits. The growth of both foreign trade and urban commerce meant that the discounting and short-term lending operations which dominated the commercial banking business during the 1880s were quite profitable (Table A.1). The return on equity by the oldest and largest commercial bank in the sample, the Banco do Brasil, averaged almost 10 percent per semester during the decade, while the second oldest, the Banco Mercantil de Santos, averaged 5 percent per semester. Three of the newest commercial banks also demonstrated steadily increasing rates of return in their first years of operation.9 In addition to a profitable commercial banking business, Sa˜o Paulo’s first venture into long-term credit looked like a success in the 1880s. The Banco de Crédito Real relied on government profit guarantees to attract investors and early press reports included dire predictions concerning riskiness of agricultural credit, but the bank fared well. Loans to agriculture doubled from US$1.2 million to US$2.3 million in its first five years. The proportion of the bank’s long-term credit relative to total earning assets also grew.10 In 1883, long-term loans, in the form of rural and urban mortgages, comprised 69 percent of the bank’s earning assets. By 1888, total mortgage loans had grown to 80 percent of earning assets. For its effort, the Banco de Crédito Real earned 5 percent on equity in 1884 and averaged 5.6 percent over the decade. A second, smaller commercial bank founded in 1887 also dabbled in mortgage lending and profited from it. The Banco da Lavoura dedicated about 25 percent of its earning assets to mortgage loans and earned an average semester return of 4.8 percent (Table A.1). 1890 – 1905

In spite of the new business possibilities promoted in the banking reform bill of 1890, only two of the more than thirty new banks formed in the following years applied for this charter. The Banco de Santos and the Banco Unia˜o de Sa˜o Paulo were newly organized as universal banks under the new law. The existing Banco de Crédito Real was extended this special charter because its profile met the specifications of the banking reform act. All other Sa˜o Paulo banks remained or were formed as commercial banks. This lack of enthusiasm for long-term lending may be explained by the low rate of return earned by the investment banks, especially the largest and

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most diversified one of the three. The Banco Unia˜o de Sa˜o Paulo dedicated assets to commercial loans, rural mortgages, urban mortgages, and investment in urban industrial plant. Its return on equity averaged only 4.9 percent per semester in the first half of the 1890s, 3.0 percent in the second half of the decade, and posted losses in three of five periods for which I have data in the first years of the twentieth century. With the exception of an occasional good semester’s returns, these profitability figures were lower than any commercial banking institution in operation during this entire period. In effect, the only banks the Banco Unia˜o de Sa˜o Paulo ever outperformed were its fellow investment banks, the Banco de Crédito Real and the Banco de Santos (Table A.2). The greatest profitability in the banking sector after the 1890 banking reform law was clearly among commercial banking institutions (Table A.2). Seven of eleven commercial banks always performed as well or better than all three investment banks in operation during the period, and ten of eleven commercial banks outperformed the Banco de Crédito Real mortgage bank in every period. Most commercial banks earned semester profits of 6 percent and above, while the investment banks tended to earn half that. The one investment bank that most resembled a commercial bank, the Banco de Santos, also generally had the highest returns of the three investment banks in any given period. Certainly the commercial banking profit potential was higher than that of the investment banks. Two clear trends that emerged in this period were the consistently declining profits of the Banco Unia˜o de Sa˜o Paulo and the consistently low profitability of the Banco de Crédito Real. The commercial banks that sometimes outperformed the industrial investment bank, Banco Unia˜o, always outperformed the agricultural investment bank, Banco de Crédito Real. A crisis of overproduction had occurred that would culminate in government intervention to purchase excess coffee stocks and prop up the exchange rate in 1906 to protect Brazilian income generated by international trade. This general crisis in the coffee sector is reflected in the profitability of all banks, which declined somewhat from the early years of the 1890s. Still, commercial banks remained more profitable than the mortgage bank, whose business of lending to the agricultural sector was under pressure by the end of the decade and which would fail shortly after the turn of the century. Among commercial banks, the new regional banks founded in interior cities throughout the state appear to have presented the greatest opportunities for financial entrepreneurs in the 1890s. All commercial banks tended to produce higher returns than mortgage banks, but among commercial banks,

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regional banks solidly outperformed banks in the three principal cities (“city banks”). The regional banks regularly outperformed the other commercial banks, earning semester returns on equity on the order of 7 to 12 percent (Table A.2). 1906 – 1920

The early twentieth century was hard on Sa˜o Paulo’s banking sector, causing many banks to fail and dramatically consolidating the sector into a handful of institutions. This is primarily because a sharp recessionary shock to the economy, intentionally induced by central government policies to curb liquidity and force a revaluation of the domestic currency, all but destroyed the domestic banking sector. The recessionary policies were the harshest between 1898 and 1902, under the aforementioned finance minister, Joaquim Murtinho. During this time, several important banks failed. The Banco Unia˜o de Sa˜o Carlos failed in 1902, and the Banco Mercantil de Santos, one of the oldest banks in the state, was liquidated in 1904. The Banco dos Lavradores folded in 1905, and Construtor e Agrícola lasted until 1907, but the recession had dealt it a death blow. The Banco de Santos disappeared by the turn of the century, the Banco de Crédito Real entered into liquidation in 1906, and the Banco Unia˜o de Sa˜o Paulo gave up on banking and dedicated itself full time to its cotton textile business. The state was left with a reduced commercial banking sector and without any long-term lending facilities at all. The turnaround in the bank sector came around 1909. The national recession at the turn of the century had been part of a policy response to the crisis of overproduction in the coffee sector. Once the state of Sa˜o Paulo decided to intervene, purchasing and holding stocks of coffee to reduce supply and bolster prices, the state’s income was protected and a generalized economic boom followed that lasted until the First World War. The prominent feature of this market is that the bank sector did not experience significant growth or change. The banks that operated in Sa˜o Paulo were either survivors from the 1890s or were founded during the recession at the turn of the century. The only new domestic bank to form after 1908, when the economy in general was experiencing robust growth, was the Banco Comercial do Estado de Sa˜o Paulo, founded in 1912. This period is characterized by consistent, healthy profits for the few banks for which I have data (Table A.3). These banks generated returns on equity of between 4 percent and 6 percent per semester in the first decade of the century, and between 3 percent and almost 8 percent during the second decade. One bank had some difficulty maintaining its profits during

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World War I. The Banco de Sa˜o Paulo downsized and returned much smaller profits during the war (an average 1.9 percent between 1915 and 1918, compared to 4.1 percent in the five years before the war) but recovered its profitability after 1918 and increased its capitalization threefold. Another bank, the Banco do Comércio e Indústria de Sa˜o Paulo, was so successful throughout this period that it paid out huge nominal dividends of 16 percent to 20 percent per year and had plenty of cash left over to distribute ever increasing bonuses to its employees. The only significant development in the post-1906 bank sector was the founding of a foreign-owned mortgage bank. The Banco de Crédito Hypotecário e Agrícola, founded in 1909 at the invitation of the government of the state of Sa˜o Paulo, was big. At about 20 million mil-réis, it was twice the size of the two largest domestic banks, the Banco do Comércio e Indústria de Sa˜o Paulo and the Banco de Sa˜o Paulo. This bank was funded by a small equity issue and a huge bond issue on the French market, backed by guarantees from the Sa˜o Paulo state government. While it was technically a foreign bank and did not trade on the Sa˜o Paulo Exchange (its debt and equity traded on the Paris Bourse), it did regularly publish its financial statements in local currency.11 This allowed me to calculate its profit rates and compare them to the domestic commercial banks. The Banco de Crédito Hypotecário performed quite well in Sa˜o Paulo. Its initial returns from 1909 to 1914 were on the order of the profits generated by the defunct mortgage institution Banco de Crédito Real during its healthier days. This French bank steadily earned returns between 3 and 4 percent per semester, compared to a profit range of 4 to 8 percent for the two established commercial banks and 1 to 5 percent for the newest commercial bank, the Banco Comercial do Estado de Sa˜o Paulo (Table A.3). Like the Banco de Sa˜o Paulo, the Banco de Crédito Hypotecário earned smaller profits at the end of the war, including one loss, but was recovering by 1920. Its five-year average earnings for the periods 1911–15 and 1916 – 20 were 4 percent and 5.2 percent per semester, respectively.

Returns to Investors External measures of profitability, measures which quantify returns to shareholders for their investment in the stocks of banking companies, show how the accounting rates of returns for banking enterprises translated into tangible rewards for those who supplied the capital. To determine how shareholders were compensated for their investment in banking institutions, I took the total value of declared dividends for the year and measured them against the

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year-end market values for the banks’ stocks. I performed the same calculation on an alternative, low-risk investment—government bonds—to determine what would be a lower-bound level of return sought by investors in the Brazilian economy. The results demonstrated that banks consistently tended to pay substantially higher returns than did low-risk government bonds. The data on the dividend rates of return to investors from 1886 to 1891 and from 1895 on demonstrate that the money the banks made was fairly generously distributed.12 Most banks up to 1891 paid dividends at an annual rate of between 7 percent and 16 percent, compared to bond returns on the order of 4 to 5 percent (Table A.4). Returns to shareholders in the 1895 – 1905 period were similarly robust (Table A.5). The city-based banks paid an annual return to shareholders of between 7 percent and 16 percent, while regional banks paid from 9 percent to 19 percent returns on their stock. The mortgage banks also paid out high returns, though each for different reasons. The Banco de Crédito Real paid dividends worth between 7 percent and 12 percent of its stock price, a reflection of its steady earnings, while the Banco Unia˜o de Sa˜o Paulo paid returns between 17 percent and 57 percent, a reflection of its depressed stock price. Government bonds, by comparison, paid from 2 percent to 7 percent during this period. The small but stable domestic banking sector that emerged from the turn-of-the-century recession demonstrated very consistent returns to its shareholder (Table A.6). The two largest banks paid between 7 percent and 12 percent dividends from 1906 until 1920. Government bonds during this period paid between 5 percent and 6.5 percent annual returns to investors. Interestingly, the bank whose earnings came under pressure in the war era paid very competitive returns to its shareholders throughout the period. Internal results may have been a struggle for the Banco de Sa˜o Paulo, but outward signs to shareholders were reassuring. Dividend returns were similar to those paid by the bank during the economic boom period of 1909 –12. The higher returns earned by stockholders relative to government bondholders can be thought of as the premium required by banks’ shareholders to compensate them for the higher risk associated with the investment. Investors tend to require a higher rate of return on investments perceived to be risky than they do on investments perceived to be secure, and my data bear out this tendency. Premiums paid to bank shareholders in the late 1880s and up to 1891 ranged from 15 percent to 200 percent, with the highest premiums paid by the agricultural mortgage bank. The Banco de Crédito Real paid between 1.5 times and 3.2 times the returns investors could earn on government bonds, while commercial banks tended to pay something less than two times the bond returns.

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The highest premiums came in the mid-1890s. By that time, the inflation in the economy was undermining the value of the domestic currency enough to worry policymakers and coffee growers. Although the Sa˜o Paulo economy was in the process of urbanizing and industrializing, it was still predominantly agricultural, with its fortunes strongly tied to the coffee sector. Commercial banks paid their highest premiums ever, from two to four times returns on general government bonds and four to seven times returns on 1868 bonds, in the period from 1895 to 1897. The sole industrial investment bank, the Banco Unia˜o de Sa˜o Paulo, paid by far the highest premiums on its capital. These were on the order of four to nine times general bonds and five to twenty-two times 1868 bonds in the late 1890s, due to the Banco Unia˜o’s depressed stock price. The stock price, just 12 percent of par in this period, compared to 90 percent of par in 1891 and 38 percent of par in 1899, reflected the pressures on industrial ventures during this period of economic turmoil.13 Once banks had weathered the recession, premiums declined. This is a reflection of the institutional stability of the surviving banks. In fact, the lowest premiums paid by any banks from 1895 on were paid by the two banks that not only survived the recession but went on to be the only major players in the domestic banking sector up to 1920, the Banco do Comércio e Indústria de Sa˜o Paulo and Banco de Sa˜o Paulo. These premiums paid in good times and in bad suggest that bank stocks probably were attractive to risktaking investors in spite of a softening agricultural sector, a recessionary macroeconomic environment, and increasing entrance of foreign competition. Indeed, new banks continued to form throughout the period, even as others failed. To understand why shareholders would continue to invest in new banks, I calculated a measure of total returns to shareholders. Total returns take into account both dividend payments and changes in stock price. This measure is the truest measure of market returns to shareholders because while dividend returns capture the explicit reward paid to investors, most of these investors probably invested on the gamble that their stocks would appreciate. Total returns is presented last because it is the least complete of all the measures I calculated. In order to calculate total returns, I required consecutive years’ financial statements and stock prices. Many banks did not consistently publish financial statements nor were they consistently traded. The chances of finding both a financial report and a stock price for any given year or set of years were slim, making this market-valued measure a rare species. In spite of the relative scarcity of data points, the total returns measure indicates some reasonably strong incentives for investors to invest in banks throughout this period.14 Bank returns to shareholders were greater than in-

204

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vestors could earn on any of the major bonds on the market in 67 of 112 observations, or 60 percent of the time.15 Moreover, the profit potential in bank stocks was much greater than in bonds (Table A.7). The highest return earned on any of the bonds in any year was 28 percent. Banks paid investors total returns in excess of 28 percent on twenty separate occasions. Looking at a more reasonable expectation of returns shows that bonds paid returns in excess of 10 percent just 21 percent of the time, while banks paid returns in excess of 10 percent 55 percent of the time. If the upside potential was greater for bank shareholders than for government bondholders, the downside risk was virtually identical for both stocks and bonds. Investors in bank stocks experienced actual losses, which was always due to a decline in the nominal market value of their stock, in just 24 of 112 observations, or about 21 percent of the time (Table A.7).16 Bondholders lost money almost as often. Bonds posted losses in 15 of 76 observations, or just about 20 percent of the time. The banks’ track record, then, was not bad. The downside potential was really no worse than the low-risk alternative—bonds—and the upside was much higher. Certainly, the good chance that bank returns would exceed bond returns, the infrequency of actually posting a loss, and the possibility for high double-digit returns on one’s investment must have been attractive to shareholders.

Appendix

REVENUES Income Carried Forward from Previous Semester Interest Income Acceptances Commissions Other Revenues

205

___________ ___________ ___________ ___________ ___________

EXPENSES Salaries and Wages Commissions General Expenses

___________ ___________ ___________

OPERATING INCOME Revenues minus Expenses before Interest Expense

___________

NET INCOME Operating Income minus Interest Expense

___________

NET INCOME ALLOCATION: Reserve Funds Dividends Bonuses and Honoraria Income: Balance Forward

___________ ___________ ___________ ___________

Figure A.1. Sample Profit-and-Loss Statement

206

Appendix

ASSETS

LIABILITIES

Cash

Equity Social Capital Reserve Funds

Current Assets Equity Balance Due Guaranteed Lines of Credit Marketable Securities and Bonds Acceptances Other Receivables Correspondent Banks

Current Liabilities Demand and Time Deposits Payables Dividends, Taxes on Dividends Bonuses and Honoraria Other Payables Correspondent Banks

Land and Buildings Receivables Belonging to Next Semester Interest Income Commissions

Payables Belonging to Next Semester Interest Expense Income: Balance Forward

Clearinghouse Collateral Safe Deposit Third-party Transactions

Clearinghouse Collateral Safe Deposit Third-party Transactions

Figure A.2. Sample Balance Sheet (Italicized accounts are common to both the balance sheet and the income statement)

Appendix

207 Ta b l e A.1 Semester Bank Profits, 1884 –1889 (percent)

Commercial banks Banco do Brasil Banco Mercantil de Santos Banco Comercial Banco da Lavoura Banco Popular Investment bank Banco de Crédito Real

1884

1885

1886

1887

1888

1889

Average

10.0 5.7

10.3 2.7

9.7 4.8 2.4

5.3 3.8 2.6 4.7

10.0 4.4 3.0 3.5 6.1

12.9 9.0 3.8 6.3 7.2

9.7 4.9 3.0 4.8 6.7

5.2

6.1

6.7

5.6

6.8

6.2

5.6

s o u r c e s : Company balance sheets, Arquivo do Estado de São Paulo, various years; and Correio Paulistano, Diário Popular, and O Estado de São Paulo, various years. n o t e s : Profitability is defined as the ratio of net earnings (dividends plus changes to reserve and undistributed profit accounts) to shareholders’ equity (paid-in capital plus reserves and undistributed profits). Figures presented here are for the second semester in each year, except 1889 Lavoura and Crédito Real, which are first semester.

Ta b l e A.2 Average Bank Semester Profitability, 1890 –1905 (percent)

City commercial banks (10, 10, 12) Banco Mercantil de Santos [7, 10, 2] Banco dos Lavradores [4, 2] Banco Construtor e Agrícola [4, 2] Banco do Comércio e Indústria de São Paulo [6, 10, 12] Banco de São Paulo [6, 5, 7] Banco Commerciale Italiano di São Paulo [10] Regional commercial banks (8, 10 ,6) Banco de Araraquara [5, 3] Banco de Piracicaba [6, 5] Banco de Ribeirão Preto [4, 1, 3] Banco União de São Carlos [5, 10, 3] Banco Melhoramentos do Jaú [5, 3] Investment banks (10, 10, 12) Banco de Crédito Real [10, 9, 8] Banco de Santos [3, 3] Banco União de São Paulo [4, 6, 4]

1890 –1894

1895 –1899

1900 –1905

4.9 8.1 6.3

2.0 4.4 4.1

0.8

16.3 7.5

8.6 6.7

6.1 4.4 4.1

10.2 5.0 8.0 8.2 8.5

8.8 6.6 13.2 11.9 7.1

3.3 6.8 4.9

2.7 2.2 3.0

0.4 9.2 3.0 4.5

s o u r c e s : Company annual reports, Correio Paulistano and O Estado de São Paulo, various dates. n o t e s : Numbers in parentheses after subheadings indicate the total possible number of observations in the period. Numbers in brackets are the number of actual observations per bank for each of the three periods. Profitability is defined as the ratio of net earnings (dividends plus changes to reserve and undistributed profit accounts) to shareholders’ equity (paid-in capital plus reserves and undistributed profits).

208

Appendix Ta b l e A.3 Average Bank Semester Profitability, 1906 –1920 (percent) 1906 –1910 1911–1915 1916 –1920 City commercial banks (10, 10, 10) Banco do Comércio e Indústria de São Paulo [10, 10, 10] Banco de São Paulo [10, 10, 10] Banco Commerciale Italiano di São Paulo [6] Banco Comercial do Estado [6, 10] Investment bank (3, 10, 10) Banco de Crédito Hypotecário e Agrícola [3, 10, 10]

5.3 4.5 4.6

3.5

6.1 4.1

7.5 2.4

3.5

7.8

4.0

5.2

s o u r c e s : Company annual reports, Correio Paulistano and O Estado de São Paulo, various dates. n o t e s : Numbers in parentheses after subheadings indicate the total possible number of observations in the period. Numbers in brackets are the number of actual observations per bank for each of the three periods. Profitability is defined as the ratio of net earnings (dividends plus changes to reserve and undistributed profit accounts) to shareholders’ equity (paid-in capital plus reserves and undistributed profits).

Ta b l e A.4 Dividend Returns to Bank Stocks and Government Bonds, 1886 –1891 (distribution by range of returns, share of returns)

Range of returns 0.0 –3.9 percent 4.0 – 6.9 percent 7.0 –9.9 percent 10.0 –12.9 percent 13.0 –15.9 percent 16.0 percent Total observations

Government bonds

Commercial banks

Number observed

% share

Number observed

12

100.0%

12

100.0%

% share

3 4 5 4

18.8% 25.0% 31.2% 25.0%

16

100.0%

Universal banks Number observed

% share

2 1 2 2 7

28.6% 14.3% 28.6% 28.6% 100.0%

s o u r c e s : For dividends and stock prices, Correio Paulistano and O Estado de São Paulo, various dates; for bond prices, O Estado de São Paulo and Retrospecto Commercial do Jornal do Commércio, various dates. n o t e : Returns are annual dividends or coupons divided by year-end market value of the stock or bond.

Appendix

209 Ta b l e A.5 Dividend Returns to Bank Stocks and Government Bonds, 1895 –1905 (distribution by range of returns, share of returns) Government bonds

Range of returns

City banks

Number observed

% share

Number observed

% share

9 20 1

30.0% 66.7% 3.3%

30

100.0%

5 1 11 10 6 1 34

14.7% 2.9% 32.4% 29.4% 17.6% 2.9% 100.0%

0.0 –3.9 percent 4.0 – 6.9 percent 7.0 –9.9 percent 10.0 –12.9 percent 13.0 –15.9 percent 16.0 percent Total observations

Regional banks Number observed

1 5 1 5 12

Universal banks

% share

Number observed

% share

5 2 6 2

22.7% 9.1% 27.3% 9.1%

7 22

31.8% 100.0%

8.3% 41.7% 8.3% 41.7% 100.0%

s o u r c e s : For dividends and stock prices, Correio Paulistano and O Estado de São Paulo, various dates; for bond prices, O Estado de São Paulo and Retrospecto Commercial do Jornal do Commércio, various dates. n o t e : Returns are annual dividends or coupons divided by year-end market value of the stock or bond.

Ta b l e A.6 Dividend Returns to Bank Stocks and Government Bonds, 1906 –1920 (distribution by range of returns, share of returns)

Range of returns 0.0 –3.9 percent 4.0 – 6.9 percent 7.0 –9.9 percent 10.0 –12.9 percent 13.0 –15.9 percent 16.0 percent Total observations

Government bonds

Commercial banks

Number observed

% share

Number observed

% share

37

100.0%

3 10 23 5

7.1% 23.8% 54.8% 11.9%

37

100.0%

1 42

2.4% 100.0%

Universal banks Number observed

% share

1 1

100.0% 100.0%

s o u r c e s : For dividends and stock prices, Correio Paulistano and O Estado de São Paulo, various dates; for bond prices, O Estado de São Paulo and Retrospecto Commercial do Jornal do Commércio, various dates. n o t e : Returns are annual dividends or coupons divided by market value of the stock or bond.

210

Appendix Ta b l e A.7 Total Returns to Bank Shareholders and Bondholders, 1887–1920 (distribution by range of returns, share of returns) Government bonds Range of returns Loss 0.0 –9.9 percent 10.0 –19.9 percent 20.0 –28.0 percent 28.1 percent Total observations

All banks

Number observed

% share

Number observed

% share

15 45 9 7

19.7% 59.2% 11.8% 9.2%

24 27 29 12 20

21.4% 24.1% 25.9% 10.7% 17.9%

76

100.0%

112

100.0%

s o u r c e s : For dividends and stock prices, Correio Paulistano and O Estado de São Paulo, various dates; for bond prices, O Estado de São Paulo and Retrospecto Commercial do Jornal do Commércio, various dates. n o t e : Total returns are dividend payments plus year-to-year change in stock price divided by previous year stock price.

notes

Chapter 1

Capital Markets and Economic Development

1. Residents and institutions from the state of São Paulo are called “Paulista.” Residents and institutions pertaining specifically to the city of São Paulo are called “Paulistano.” 2. Holanda and Campos, História geral da civilização brasileira, 6:119. Coffee led Brazilian exports, by value, for the first time in 1831 when it accounted for 28.6 percent of all exports. In the decade 1831– 40, coffee contributed 43.8 percent of the total value of exports, compared to just 24.0 percent for sugar. 3. Of course, a small nobility of sorts did evolve from the famed bandeirantes, or frontiersmen, who searched for gold and Indians in colonial-style get-richquick schemes. The elite of São Paulo were those families that were able to concentrate land and labor under their control. “Noble” implied control and connections deriving from longevity of residence more than it did wealth. São Paulo was a relatively poor region before independence, and while these elite families did well in the eighteenth century relative to other Paulistas, they didn’t amass significant fortunes or titles until the heyday of the nineteenth century. In short, many of the “four hundred year families” that are pointed to with pride didn’t arrive in São Paulo until the eighteenth century, while the others spent three hundred years forming connections and controlling meager resources, efforts that eventually paid off. Their enduring presence and fame appear to be, in part, a product of hindsight (Levi, The Prados of São Paulo, 17–23; Metcalf, Family and Frontier in Colonial Brazil). 4. On the importance of the Santos-Jundiaí and other railroads to coffee production, see Love, São Paulo in the Brazilian Federation, chap. 2. On the importance of rail development to internal domestic activity, particularly because of declining freight rates, see Summerhill, “Transport Improvements.” 5. The number of coffee trees planted in São Paulo grew from 106 million in 1880 to 526 million in 1901 (Cano, Raízes da concentração industrial, 41). São Paulo produced 7.97 million of the world’s total 15 million 60 –kilo bags of coffee in 1900, almost 53 percent. It continued to produce well over half the world’s coffee supply in all but three years in the following decade (Holloway, The Brazilian Coffee Valorization of 1906, 85 – 87).

211

212

Notes to Chapter 1

6. Leff finds that income per capita in the Northeast and coffee-growing Center South were similar at the opening of the nineteenth century but widened considerably throughout the course of the century, due largely to the rise of coffee and the failure of other more traditional crops to establish an importance in the international export market. He suggests that virtually the entire rise in the national income per capita figures for the nineteenth century derived from the wealth in the coffee regions of São Paulo and Rio de Janeiro and that the regions producing traditional export crops may have experienced an absolute decline in income levels (Leff, “Economic Development and Regional Inequality”). 7. Dean writes that “by 1920 it had replaced the area of Rio de Janeiro and the federal capital as Brazil’s most important industrial center. By the 1940’s the state undoubtedly possessed the largest agglomeration of manufacturing capacity in Latin America” (The Industrialization of São Paulo, 13). 8. The most important studies in this vein were written by Furtado and Prado, both prolific authors on the question of Brazil’s development as a thirdworld country. Caio Prado Jr., scion of one of the most famous of the Paulista coffee families, is the author of Formação do Brasil contemporâneo (first published in 1942) and História econômica do Brasil (first published in 1945). Furtado’s bestknown work is Formação econômica do Brasil (first published in 1959). 9. Examples of this literature include Leff, Underdevelopment and Development, and Cano, Raízes da concentração industrial. 10. The most famous book in this genre is Mello, O capitalismo tardio. 11. Many famous books came out of this endeavor. Silva (Expansão cafeeira) and Cano (Raízes da concentração industrial) explicitly examined the links between coffee and industry in São Paulo. Tavares (Da substituição de importaço˜es) and J. C. de Mello (O capitalismo tardio) used this link between agricultural production and industrialization to examine the process in a third-world country developing late and under changing rules. Nozoe (São Paulo, economia cafeeira e urbanização) looked at the coffee complex, its domestic links, and the urbanization process. Kuznesof (Household Economy and Urban Development) searched for the early roots of the market economy and its urban impulses in São Paulo. Z. M. Cardoso de Mello (Metamorfoses da riqueza) searched planter inventories to track the evolution of their wealth holdings out of traditional or prestige wealth into market or capitalistic wealth. Love (São Paulo in the Brazilian Federation), Love and Barickman (“Rulers and Owners”), and Mattoon (“Railroads, Coffee, and the Growth of Big Business”) examined the relationship between export wealth and political power. 12. Of course, as Hoffman, Postel-Vinay, and Rosenthal point out in “Information and Economic History,” the investments themselves do not have to be productive in order to promote economic growth. The ability to borrow money is the key. If the ability exists and frees up a businessman from drawing on his business capital to finance a luxury purchase, for example, the loan itself

Notes to Chapter 1

213

does not have to have a productive application. The capital market contributes to economic activity by not forcing the borrower to choose between consumption and investment. 13. This concept of production of trust was first articulated by Zucker (“Production of Trust”). 14. Zucker’s concept of trust can extend to information markets as well. In nineteenth-century France, the rise of an institutional mechanism to gather information on creditworthiness eliminated the notaries, who used personal knowledge to make financial credit available (Hoffman, Postel-Vinay, and Rosenthal, Priceless Markets, 254). 15. Hoffman, Postel-Vinay, and Rosenthal, “Information and Economic History.” 16. In fact, these notaries provided an important service that banks did not: lending capital for the long term. Banks almost exclusively dealt in short-term commercial loans, while the loans the notaries arranged were long-term loans. Long-term lending is important for new capital formation and therefore is one of the critical building blocks for economic growth. 17. The literal interpretation of usury had been any rate of interest, but this shifted to a meaning of “excessive” interest rates. The term “excessive” came to be defined as rates above the prevailing market rates. An excellent study of the meaning of usury in early modern times is Le Goff ’s Your Money or Your Life. Over the course of the thirteenth century, purgatory evolved as a place usurers could be sure to end up to atone for their sinful lifestyle, thus allowing them to make money in this world and enjoy eternal salvation in the next. 18. Their new position of importance was apparent as early as the eleventh century, when the European economy began to show signs of recovery from the long period of stagnation known as the Dark Ages. As population recovered and urban areas grew, specialized production also grew. Urban handicrafts were refined and traded throughout Europe for other regional crafts as well as for grain (Duby, The Early Growth of the European Economy; North and Thomas, The Rise of the Western World). 19. Neal, The Rise of Financial Capitalism. 20. An associated development was the reemergence of banks. Banking laws from the Roman era were resurrected, and deposit banking, principally fostered by the Italians, returned by the twelfth century but didn’t reach its peak until the fifteenth century. Merchant houses established banks, and vice versa, as trade grew with the economic upswing after the eleventh century. Italian banks established branches in major commercial centers throughout Europe, and are considered to be the most sophisticated financial institutions before the late seventheenth century, but did not dominate the capital markets and tended to correspond with merchant practices and interests rather than supplement them. In Premodern Financial Systems, Goldsmith estimates that the more modest money-

214

Notes to Chapter 1

lenders and money changers were far more numerous and served a broader clientele than the premodern Italian banks (see also Weatherford, The History of Money). 21. Thee classic problems included enforcement of work effort, quality and consistency of product, and embezzlement. Sources on the rise of the puttingout system and its associated limitations include Landes, The Unbound Prometheus; De Vries, Economy of Europe in an Age of Crisis; and Marglin, “What Do Bosses Do?” 22. These modest 5 percent payments, however, could exceed the annual revenue for a highly mortgaged estate. Once landowners missed payments, or failed to repay their creditors upon their death, the Church seized the property. The Mexican Church amassed huge landholdings in this manner (see Van Young, Hacienda and Market; and Greenow, Credit and Socioeconomic Change). 23. They did not have free reign over the landed estates that their Mexican counterparts did, however. Brazilian sugar planters, displaying far more political savvy than Mexican hacendados, had secured legislation protecting them from foreclosure on their estates (see Schwartz, Sugar Plantations). 24. In the case of Guadalajara, the Church had originally been the most abundant source of credit. Over the course of the eighteenth century, however, it ceded its place to merchants, with positive benefits to the local economy. While the Church had primarily financed hacienda owners and government bureaucrats, merchants had much broader ties to the local economy and were an important source of credit to the mining industry. The sugar region of Brazil exhibited a very similar pattern (Greenow, Credit and Socioeconomic Change; Schwartz, Sugar Plantations). 25. Flory and Smith, “Bahian Merchants and Planters”; Kuznesof, “The Role of Merchants.” 26. Kicza, Colonial Entrepreneurs; Hoberman, Mexico’s Merchant Elite; Booker Veracruz Merchants. 27. Hoberman, Mexico’s Merchant Elite, 55 – 62. An interesting feature of the personal capital market in colonial Latin America is that the most active lenders were also the most active borrowers. The Church (and its clergy), hacienda and plantation owners, and merchants constituted the largest groups on both sides of credit transactions. Evidence from Guadalajara shows that about 40 percent of the region’s merchants borrowed and lent money and another 18 percent appeared as co-signatories or lenders (Greenow, Credit and Socioeconomic Change, chap. 4). Moreover, most of the loans solicited and made were between extended kin groups and business contacts. Merchants, miners, and haciendas owners were related to one another, and often crossed definitional borders themselves. On this metamorphosis, see Brading, Miners and Merchants; also, Kicza, Colonial Entrepreneurs; and Flory and Smith, “Bahian Merchants and Planters.” 28. Booker, Veracruz Merchants. 29. Salvucci, Textiles and Capitalism.

Notes to Chapter 1

215

30. Kicza, Colonial Entrepreneurs. 31. In terms of the value of credit created, long-term church loans at times had a higher recorded value. Church lending was fairly restricted in terms of its clientele, however. In terms of the number of individuals and firms served, merchant credit predominated (Greenow, Credit and Socioeconomic Change). 32. This view of premodern financial markets is from the work of Goldsmith. He argued that the commercial credit facilities probably functioned more or less rationally, but that personal or consumer credit was difficult and costly to obtain (Premodern Financial Systems). 33. Quantitative analyses of the relationship between stock markets and economic growth in the late twentieth century have found that the mere existence of a stock exchange itself is not correlated with growth. Rather, it is the ability to trade stocks that allocates resources and promotes growth (Levine and Zingales, “More on Finance and Growth”). 34. The negative side of this institutional development is that Britain did not have the heavy-hitting investment banks at the end of the nineteenth century that might have stimulated investment to remain competitive with Germany. Two very good books on this subject are Collins, Banks and Industrial Finance, and Cottrell, Industrial Finance. Mathias confirms this interpretation by examining the balance sheets of a variety of industrial concerns at the turn of the nineteenth century. Fixed capital was relatively small in most firms, requiring very little long-term finance. Firms with higher degrees of mechanization, and therefore higher fixed-capital investment, tended to finance their fixed capital through retained earnings. Banks stepped in and occasionally provided a larger loan at the longer term, alleviating the periodic demand for such loans. Commercial capital prevailed on the whole, however, because the long-term credit demands on the banking system were few and infrequent (Mathias, The First Industrial Nation). 35. Hoffman, Postel-Vinay, and Rosenthal, Priceless Markets, chap. 9. 36. The most famous of these were the four “D” banks: Deutsche Bank, Diskonto-Gesselschaft, Dresdner, and Darmstadter. 37. Tilly, “German Banking, 1850 –1914.” 38. Lamoreaux, “Banks, Kinship, and Economic Development.” 39. U.S. economic historians argue that the early development of this New England capital market helped the Northeast to eclipse the cotton South economically in the nineteenth century. Per capita wealth in the Northeast had been the lowest in the nation at the time of the Revolutionary War, and well below that of the prosperous cotton South. By 1840, however, per capita northern income was over 30 percent higher than southern income, in spite of robust growth in the southern economy (Rothenberg, “The Emergence of a Capital Market in Rural Massachusetts”; Parker, “New England’s Early Industrialization”). 40. Levine and Zingales outline a range of opinions held by Nobel Prize winners on this idea, from those who think finance is overstressed in the growth

216

Notes to Chapter 2

literature to those who think its contribution is almost too obvious for serious discussion (Levine and Zingales, “More on Finance and Growth,” 31). 41. Hoffman, Postel-Vinay, and Rosenthal, Priceless Markets, chap. 10. 42. This persistence has generated a heated historical debate, largely critical, about British bank failure. Britain’s institutions have not been entirely condemned, however. Examples of the literature defending British dedication to commercial banking include Collins, “English Bank Development,” and Watson, “Banks and Industrial Finance.” 43. Tilly, “German Banking, 1850 –1914.” 44. Lamoreaux, Insider Lending. 45. Cottrell, Industrial Finance. 46. White, The Regulation and Reform of the American Banking System. 47. Roe, Political Determinants of Corporate Governance. 48. In fact, a corporate structure that privileges profit maximization can hurt wage earners by exporting their jobs to low-wage areas, as is currently happening in the United States. 49. This broad-ranging analysis covering 150 nations, inspired by Goldsmith’s Financial Structure and Development, is presented in Demirgüç-Kunt and Levine, Financial Structure and Economic Growth. 50. Haber, “Industrial Concentration and the Capital Markets.” On Brazil alone, see Haber, “The Political Economy of Financial Market Regulation.” This research on financial market regulation and textile firm size is the strongest indication that financial institutions mattered importantly in Brazil’s development. 51. Potash, The Mexican Government and Industrial Development. 52. Marichal, “Obstacles to the Development of Capital Markets.” 53. This data was generously provided to me by Noel Maurer. 54. Nakamura and Zarazaga, “Economic Growth in Argentina.” 55. For example, the amount of capital represented on the Argentine Bolsa in 1913 was equivalent to that listed on the Italian Exchange in 1992. 56. Taylor, “Latin America and Foreign Capital.” 57. The notable exceptions include Levy, História da Bolsa de Valores; Saes, Crédito e bancos; and Triner, Banking and Economic Development. Levy authored an institutional history of the Rio de Janeiro stock exchange; Saes studied the history of credit in São Paulo in the First Republic; and Triner analyzed the emergence of Brazil’s modern banking system in the First Republic. 58. Dean, The Industrialization of São Paulo, 5; Cano, Raízes da concentração industrial, 123. 59. Sweigart, “Financing and Marketing Brazilian Export Agriculture.”

Chapter 2

Native Capital under the Empire

1. The term “Province” was used in the era of the Empire, 1822 – 89, when Brazil’s political structure was centralized. The term “State” has been used ever since the founding of the First Republic in 1889, when Brazil adopted a feder-

Notes to Chapter 2

217

alist structure. There is no geographical difference between the Province of São Paulo and the State of São Paulo. 2. From Brazil’s discovery in the sixteenth century through the end of the slave trade in the nineteenth century, more than three million slaves were imported to work in the sugarcane fields in the sixteenth and seventeenth centuries, in the gold mines in the eighteenth, and finally on the coffee plantations in the nineteenth century. In 1817–18, four years before Brazil declared independence from Portugal, the slave population was 1.9 million out of a total population of 3.8 million (Conrad, World of Sorrow). 3. Consumption taxes were introduced toward the end of the century in the form of the stamp tax. Producers were required to affix a stamp on their products, which they purchased from the government and the cost of which they passed on to consumers. The use of stamp taxes became so widespread under the presidency of Campos Salles (1898 –1902) that he was called Campos “Sellos,” the Portuguese word for stamps. 4. Sweigart, “Financing and Marketing Brazilian Export Agriculture.” 5. For a detailed account of the slave trade and its abolition, see Conrad, World of Sorrow. 6. The data cited in this paragraph are drawn from Bethell and Carvalho, “1822 –1850.” Statistics on coffee’s dominance from the 1830s on can be found in Holanda and Campos, História geral da civilização brasileira, 6:119. According to Holanda and Campos, coffee first assumed export dominance in 1831, when it accounted for 28.6 percent of the value of all exports. The balance of their data is by decade, not year, but the clear trend is that coffee was Brazil’s most important export from the 1830s through the balance of the nineteenth century, while sugar’s predominant trend was one of decline. 7. The pressure exerted by the British government took the form of the invasion of Brazilian territorial waters to hunt down slave ships (Bethell and Carvalho, “1822 –1850,” 95 –109). Conrad finds that more than 3,088 slaves were imported into Rio de Janeiro in 1851, the year after the African trade was suppressed. Another 1,473 entered in the first three months of 1852. Even the intense pressure exerted by the British, then, did not immediately nor completely stop the trade (Conrad, The Destruction of Brazilian Slavery, 288). 8. Brazilian production totaled about 17 million bags (60 kilos each) in the 1840s, 36 million bags in the 1870s, and 72 million bags in the 1890s (Silva, Expansão cafeeira, 49). 9. This was the product of a sharp imbalance in the sex ratio of imported slaves, which leaned heavily toward men, and a practice of manumitting girls, which decreased the number of childbearing women. Additionally, the male slaves were treated very harshly, creating high mortality rates (Graham, “1850 – 1870”). 10. The estimate for 1850 is from Stein (Vassouras, 294). The figures for 1874 and 1887 are drawn from the Agricultural Ministry reports and published

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in Conrad (The Destruction of Brazilian Slavery, 285). The precise figures are: 1,540,829 slaves in 1874 and 723,419 slaves in 1887. 11. Stein, Vassouras, 65. Also, on the internal slave trade, see Klein (“The Internal Slave Trade”). Conrad counts almost 35,000 slaves imported into Rio via interprovincial trade between 1852 and 1862 (Conrad, The Destruction of Brazilian Slavery, 289 –90). 12. São Paulo’s slave population had slipped to 167,493 by 1884, but at 4 percent this was one of the smallest percentage losses experienced by any province. The North, Northeast, West, and South regions experienced losses on the order of 30 –35 percent, compared to the South-Central decline of 9 percent (Conrad, The Destruction of Brazilian Slavery, 285, 290). 13. Stein, Vassouras, 78 –79. “Efficient working age” was considered to be between fifteen and forty years old. 14. Costa, “1870 –1889,” 164; Conrad, The Destruction of Brazilian Slavery, 284. 15. Costa, The Brazilian Empire, 78 –93; Dean, “Latifundia and Land Policy.” 16. Furtado, The Economic Growth of Brazil, 137– 40. 17. The Paraíba Valley of southern Rio de Janeiro and northern São Paulo was the principal locus of coffee production from the 1830s through 1882, by which time the soils were exhausted and the region entered stagnation and decline. Western São Paulo took over as the primary coffee-growing region at that time. Its production increased from 16 percent of total Brazilian coffee in 1870 to 40 percent of total Brazilian coffee produced in 1885 (Cano, Raízes da concentração industrial, 23 –32). 18. The need for immigrant labor in Brazil has been debated. Scholars believe that there was enough domestic free labor to satisfy the needs of the coffee planters, but that the wages required to attract domestic laborers to the coffee plantation were too high, either because of the stigma of slavery or the harsh working conditions. Planters chose the lower cost option of importing European immigrants to the coffee plantations. In fact, the immigration scheme was so successful that it depressed wages and kept the planters’ costs low over the long term (Leff, Underdevelopment and Development, 1:52 –53). 19. Sweigart, who details the traditional planter-comissário relationship in his 1980 Ph.D. thesis, notes that comissários had traditionally agreed to grace periods on payment of up to one year (Sweigart, “Financing and Marketing Brazilian Export Agriculture,”112 –17). 20. In the province of São Paulo in the 1870s and 1880s there was a strong relationship between planters, railroads, and banks. There are many examples of planters who founded, held shares in, or ran both banks and railroads. One such example is Martinho da Silva Prado, a coffee planter, who served as director of the Paulista Railroad Company from 1869 to 1887 and also served as director of the São Paulo Affiliate of the Banco do Brasil and of the Casa Bancária da

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Província de São Paulo. Chapter 6 details the extensive ties between railroads and banks in São Paulo. 21. Leopoldi, “Industrial Associations.” 22. This overview of banking policy is from Pelaez and Suzigan, História monetária; see especially chapters 3 and 4. 23. The Banco Comercial do Rio de Janeiro was founded in 1838; Banco Comercial da Bahia was founded in 1845; the Banco do Maranhão was founded in 1846; and the Banco do Pará was founded in 1847. Two more private banks were founded in 1851: the Banco Comercial de Pernambuco and the Banco do Brasil (Mauá) in Rio de Janeiro (Pelaez and Suzigan, História monetária, 67– 69). 24. The Banco Comercial do Rio, which set a pattern followed by the others, paid depositors between 4 percent and 4.5 percent, while it charged 6 percent to 7 percent to discount commercial paper. Pelaez and Suzigan suggest that this bank’s charter established the low returns paid on bank deposits that were pervasive in Brazil in the nineteenth century (Pelaez and Suzigan, História monetária, 67). 25. The Banco Comercial da Bahia lent money for periods up to five years, while the Banco do Pará limited its maximum term to two and a half years (ibid., 69). 26. The annual percentage rate on vales issued by the Banco Comercial do Rio was 2 percent (Ibid., 67). 27. Ibid., 96. The monetary character of banknotes is detailed in a contemporary volume on the theory of banking, first published in 1891 (Dunbar, Sprague, and Willis, The Theory and History of Banking). 28. Bethell, The Abolition of the Brazilian Slave Trade, 388 –93. 29. Stein, Vassouras, 20. 30. Brazil, Coleção de Leis e Decretos, 1849 –1920 [hereafter, Leis e Decretos], Law 556, 25 June 1850. 31. Leis e Decretos, Law 556, 25 June 1850, Articles 119 –20. 32. Leis e Decretos, Law 556, Part I, Title XVI, 120 –33. 33. Cottrell, Industrial Finance, 6. Cottrell writes: “The bill of exchange became the engine of commercial and industrial credit as a result of the flexibility of the legal code which acknowledged mercantile custom and practice to be the guiding rule.” 34. Leis e Decretos, Decree 2711, 19 December 1860. This decree “contains various dispositions about the creation and organization of banks, companies, joint-stock companies and others. . . . ” Its sister law, Law 1083 of 22 August 1860, became known as the Law of Impediments because of the restrictive provisions contained within. 35. Leis e Decretos, Decree 2711, 19 December 1860, Article 1. 36. Leis e Decretos, Law 1083, 22 August 1860. 37. English commercial law was eliminating the parliamentary charter requirement for joint-stock companies at about the same time Brazilian commer-

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cial law was imposing it. Incorporation became a simple administrative process after 1855 in England (Cottrell, Industrial Finance, 39 – 42). French law also required government charters for joint-stock companies, until free incorporation laws were passed in 1863 and 1867. Cameron notes that “the Conseil d’Etat granted charters sparingly, and . . . was loath to grant them to banks because of the influence of the Bank of France” (Cameron, “France, 1800 –1870,” 112). 38. Pelaez and Suzigan, História monetária, 119. For the historian, it was precisely this charter which provided sources to study banking. All chartered companies, including banks, were required by law to file monthly balance sheets with the government of the province in which they operated. These balance sheets were generally published in the major newspapers and were occasionally coupled with statements of profit and loss. Because most banks were publicly owned, these financial statements provided a fairly comprehensive paper trail and a rich source of information on the operations and profitability of the banking sector. Private banks, unfortunately, were not required to file similar statements and therefore have all but vanished from the historical record. 39. Saes mentions that one São Paulo bank did exist in the 1820s but was short-lived (Saes, Crédito e bancos, 72). 40. Books on São Paulo’s commercial activity before the rise of coffee include Petrone, O Barão de Iguape and A lavoura canavieira em São Paulo; Morse, From Community to Metropolis; and Kuznesof, Household Economy and Urban Development. 41. Petrone, A lavoura canavieira em São Paulo, 178 – 82. She attributes the poor quality to a combination of factors, including inexperienced producers, spoilage in transit, and corrupt merchants. She finds that merchants complained about the poor quality of Paulista sugar from the earliest days of its production for export. These complaints became more frequent by the end of the eighteenth century, when measures were proposed to clearly identify the origin of São Paulo sugar, which was being passed off as Rio de Janeiro sugar and damaging this area’s reputation. 42. This Antônio Prado, the third in his family line, was also a sugar merchant and tax farmer (Petrone, O Barão de Iguape). 43. Levi, The Prados of São Paulo, 25. 44. Coffee production was 1.34 million arrobas in 1849 –50, 3.63 million arrobas in 1859 – 60, and 4.17 million arrobas in 1869 –70. An arroba was a measure of weight, ranging from 25 to 32 pounds, depending on the region (Levi, The Prados of São Paulo, 68). Total population in 1854 was 417,149 and in 1874 was 837,354 (Camargo, Crescimento da população no Estado de São Paulo, 2:18). 45. In 1854 about 28 percent of the population was comprised of slaves. By 1872 this had shrunk to just 18.7 percent. Immigrants were not yet arriving in significant numbers (Cano, Raízes da concentração industrial, 36). 46. Correio Paulistano, 2 January 1855, 15 January 1855.

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47. Planters were eager to replace sugar as their primary product because São Paulo’s sugar was of poor quality and therefore was not particularly competitive in the world market. São Paulo’s coffee, on the other hand, was of high quality, which helped stimulate the rapid expansion of demand (Petrone, A lavoura canavieira em São Paulo, 162 – 66). 48. Levi, The Prados of São Paulo, 69 –70. 49. Almanak administrativo, mercantil e industrial da Província de São Paulo para o ano de 1858. 50. These were the Barons of Antonina, Iguape, Itapetininga, Limeira, and Tieté and the Marqueza de Santos. The relative was Fidelis Nepomunceno Prates, related by marriage to the Barão de Antonina and the Barão de Itapetininga. The senator was Senator Francisco Antônio de Souza Queiroz. 51. Shareholders and/or directors of the Banco do Brasil were the Barons Iguape, Tieté, and Itapetininga; F. N. Prates; Senator Souza Queiroz; Joaquim Timoteo de Araújo (a dry goods merchant); Thomaz Luíz Álvares; and Francisco José de Azevedo (also a dry goods merchant). Shareholders and/or directors of the Paulista Railroad were the Barons Antonina, Iguape, Tieté, Itapetininga, and Limeira; F. N. Prates; Senator Souza Queiroz; Joaquim Timoteo de Araújo; and Thomaz Luíz Álvares. 52. Levi, discussing the immigration programs promoted by the Prados and arguing that many immigrants were in a state of perpetual debt on the fazenda, mentions that “one atypical family of seven workers had saved three contos ($1,280) which was lent out at interest” (Levi, The Prados of São Paulo, 82). 53. Hoffman, Postel-Vinay, and Jean-Laurent Rosenthal, “Information and Economic History.” 54. Levine and Zingales, “More on Finance and Growth.” 55. Loans to new businesses need to be long term because it takes a while for businesses to build their physical assets, start production or service, attract customers, generate revenues, and, finally, profits. Therefore, businesses require credit with terms of several years in order to have the freedom to develop without the pressure of repayment. 56. Private banks, as mentioned earlier, were not required to file similar statements and so left no documents that would allow their inclusion in this study. 57. In addition to these nine publicly owned banks there were four private banking houses operating at different times in this period. Careful review of contemporary journals for articles and financial statements has not turned up any additional banks. 58. Correio Paulistano, 1 January 1856. 59. Banknotes acted as a generic form of paper money that could be exchanged for goods and services in an era when paper was generally used for a limited purpose—for example, as a letter of credit to purchase a specific good from a specific person. Banknotes meant that any person bearing such a note

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could go to the bank on which the note was drawn and redeem the face value in some other means of payment, typically silver and gold. The decision that the paper of any bank, in this case, the Banco do Brasil, would be accepted in any public office was an important one. It both gave impetus to banks as institutions, by provoking increased daily interaction between private citizens, businesses, and banks, and was a step in the direction of creating a circulating currency. 60. Brokers bought the notes at a discount and made occasional trips to Rio to redeem them in bulk. 61. Correio Paulistano, 2 January 1856. The São Paulo affiliate was required in its statutes to swap the Rio notes without charging any sort of premium. 62. Correio Paulistano, 11 December 1856. “As notas emitidas por esta caixa filial tem o privilégio exclusivo de serem recebidas em pagamento nas repartiço˜es públicas.” 63. Saes, Crédito e bancos, 73. 64. Levi, The Prados of São Paulo. 65. Ibid., 69. 66. See, especially, Z. M. Mello, who found that the wealth of Paulista planter families was increasingly invested in the modern, urban sector, and that members of these families were drawn into industrial and financial enterprises as investors and directors (Mello, Metamorfoses da riqueza, 144 – 47). 67. Lamoreaux, Insider Lending. 68. Leis e Decretos. The English Bank of Rio de Janeiro was authorized by Decree 3212 on 28 December 1863. The name was originally the Brazilian and Portuguese Bank Ltd., and was changed to the English Bank by Decree 3713 in October 1866. The São Paulo affiliate was authorized by Decree 4451, 12 January 1870. 69. Leis e Decretos, Decree 2711, 19 December 1860, Article 1. 70. The Germans came to be an important presence in the coffee import/export business by the last decade of the nineteenth century, and French and American interests joined the British, Germans, and French after the turn of the twentieth century (Dean, The Industrialization of São Paulo, 55 –58). As we will see in Chapter 6, this growing presence translated into the founding of German and French commercial banks in São Paulo in the 1890s, and U.S. commercial banks after 1906. 71. Leis e Decretos, Decree 5061, 28 August 1972, Article 2. 72. Leis e Decretos, Decree 5061, 28 August 1972. Like the English Bank of Rio, in Santos it was authorized to perform the full range of commercial banking services established in Decree 2711 of 1860. 73. Sweigart, “Financing and Marketing Brazilian Export Agriculture,” 109 –15. For the complete story on factor-supplied short-term credit, see ibid., chap. 4. 74. Sweigart, “Financing and Marketing Brazilian Export Agriculture,” 111. 75. Correio Paulistano, 20 November 1858. The author of that article had

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reason to complain, for the two Rio banking establishments apparently spent their time and money pursuing more secure nonagricultural opportunities. According to Sweigart, this article referred to the Banco Comercial e Agrícola and the Banco Rural e Hipotecário (Sweigart, “Financing and Marketing Brazilian Export Agriculture,” 128). 76. Ibid., 120 –21. The discount rate in São Paulo in the 1850s and 1860s ran between 8 percent and 11 percent. While Sweigart does not include a numerical table showing the actual rates in Rio, his graph shows that for Rio the 1850s and 1860s were at the higher end of his 6 –10 percent average for the period. A visual assessment shows that the rates ran between 8 percent and 10 percent. In this case, the rates for São Paulo were not significantly higher. Discount rates from São Paulo were compiled from newspaper advertisements in contemporary journals. 77. Leis e Decretos, Law 1237, 24 September 1864. 78. The Vergueiro family was one of the key planter-merchant families in the region. Senator Nicolau Vergueiro, José Vergueiro’s father, was the first planter to experiment with immigrant European labor (1847), on the very plantation in dispute, and was a partner in the export firm of Souza, Vergueiro. José Vergueiro, in addition to being a coffee planter, was a partner in the Vergueiro & Companhia export firm, as well as a shareholder of the Paulista Railroad and the Companhia Cantareira e Esgotos water and sewer company. 79. The fight between Vergueiro and the bank is chronicled in the Correio Paulistano, 5 June 1877, and 23 June 1877. 80. Holloway, Immigrants on the Land, chap. 6. Holloway found that many of the immigrant agricultural workers saved enough money to establish their own farms. It was not uncommon for their landlords to sell them plots that had been in production for a long time and were decreasing in productivity. 81. Ibid., 152 –53. 82. São Paulo has conventionally been divided up into zones, identified by their predominant municipalities and geographical conditions, for census purposes. The classic coffee frontier, known as the “Paulista West” was comprised of three zones which spread out like long fingers northward from the city of Campinas. These regions developed into major coffee producers at roughly the same time, from the 1850s to the 1880s. The boom in both demand and price that occurred from 1886 to 1896 caused speculators to seek new, virgin territory to expand the productive capacity of the state. These new zones, which were to the west of the classic coffee region, were opened up by railway with the specific intent to attract planters. For the zoning and growth of São Paulo, see Camargo, Crescimento da população no Estado de São Paulo, vol. 1. 83. Holloway found that the largest concentrations of immigrant landowners were in the oldest region of the São Paulo boom, around Campinas, and in the first zone of pioneer expansion, known as the Araraquense region. A third zone, the Noroeste, or Northwest, opened up in 1905, attracted an even greater

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number of immigrant landowners. By 1920, foreigners owned two-thirds of all its agricultural properties (Holloway, Immigrants on the Land, 147–53). 84. The information on growing cycles, yields, and climatic crises is taken from Holloway (The Brazilian Coffee Valorization of 1906, chap. 1). 85. Sweigart, “Financing and Marketing Brazilian Export Agriculture,” 112 –17. 86. Pelaez and Suzigan, História monetária, 139. They note that while the U.S. economy experienced a brief expansion during the years 1879 and 1882, there was no corresponding favorable reaction by coffee prices. 87. Schwartz, Sugar Plantations, 196, 209 –12. 88. Triner, Banking and Economic Development, 136. 89. Luna and Klein, Slavery and the Economy of São Paulo, 109 –10. 90. Klein, “The Internal Slave Trade,” 567– 85. 91. On expectations of slave owners and the impact of those expectations on slave prices, see Fogel and Engerman, Time on the Cross, 103 – 6. 92. A typical advertisement from the Casa Bancária Teodoro Reichert read: “Entrando esta casa no 14o ano de existência, continua a fazer as transaço˜es bancárias do costume, descontando letras com duas firmas, abrindo contas correntes garantidas, dando dinheiro sob penhor de ouro e prata” (Correio Paulistano, 8 January 1878, 3). 93. “Dinheiro à prémio: Dá-se 3:000$000 à prémio de 1% ao mês com suficiente garantia. Nesta typographia se dirá quem dá” (Correio Paulistano, 30 January 1878, 3). One mil-réis was worth about US$0.50 until the 1890s, when its value slid to between $0.25 and $0.33. All exchange rates employed in this book are from Barreto (“Relaço˜es econômicas”). 94. Saes and Mello, “Principais características,” 35. Exports totaled about US$18 million in 1880 and US$44 million in 1889. Coffee contributed, on average, 90 percent of the value of all exports. Sugar and cotton contributed the balance. 95. Slaves in the province of São Paulo numbered 117,000, or 28 percent, of the population in 1854. The slave population in 1886 stood at 106,000 and comprised just 8.7 percent of the population. Data are from Camargo, Crescimento da população no Estado de São Paulo, 2:71. 96. Gremaud, Saes, and Toneto, Formação econômica do Brasil, 46. 97. Dean, The Industrialization of São Paulo, 5 –9; Holloway, Immigrants on the Land. 98. All population figures are from Camargo, Crescimento da população no Estado de São Paulo, vol. 2, unless otherwise noted. 99. Figures for 1855 and 1872 are from Morse, Community to Metropolis, 122. Figures for 1890 and 1900 are from Cano, Raízes da concentração industrial, 310. 100. Saes and Mello, “Principais características”; data mentioned in this and the following paragraph are from chapter 5.

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101. Saes and Mello, “Principais características,” 75. 102. The Santos branch of the London and Brazilian Bank was authorized in 1863, but according to Saes, it did not begin operating until the 1880s (Saes, Crédito e bancos, 75 –77). The first balance sheet I found for it was for 1882. 103. The Economic Commission on Latin America, formed by the United Nations in the mid-twentieth century to study the problem of late development and prescribe solutions, produced the seminal treatise on the structural inequality of trade between industrial and primary-product exporting economies. This treatise had a profound impact on decades of scholarship, such as the work cited in the preceding footnote (see United Nations, “The Economic Development of Latin America”). 104. Frank, Capitalism and Underdevelopment; Graham, Britain and the Onset of Modernization in Brazil; and United Nations, “Population Growth and Policies in Mega-Cities.” 105. This pattern applied to both domestic and foreign banks. At the Banco do Brasil, for example, descontos fell from 46 percent of bank investments in 1879 to 28 percent in 1885, and disappeared entirely in 1887. At the Banco Mercantil de Santos, descontos fell from 47 percent of applied funds in 1882 to 26 percent in 1889. At the English Bank of Rio in Santos, descontos fell from 55 percent in 1880 to 13 percent in 1889. 106. According to contemporary advertisements, lines of credit could be secured by gold, silver, diamonds, government bonds, stocks, debentures, and mortgage-backed letters. 107. According to scholars of the Industrial Revolution, these same urban and infrastructure improvements also attracted capital before manufacturing registered significant increases in capital formation: “As the capital stock grows during industrialization, its composition changes. Generally in the early stages of growth the biggest demands for capital arise from urbanization and the development of transport systems. . . . [With] the tailing off of construction expenditure, industry’s share rises” (Cottrell, Industrial Finance, 4; see also Cameron, “England”). 108. Investment in stocks applied to domestic banks only. Foreign banks remained fully dedicated to short-term credit during the period. 109. This figure is the average of stocks and bonds to total earning assets for the years 1873 – 82. 110. The bank provided no detail regarding which stocks it held. The balance sheets merely listed “company stocks.” 111. The Banco da Lavoura listed “titles belonging to the bank,” while the Banco Popular listed “investments belonging to the bank.” 112. Correio Paulistano, 17 August 1886. 113. Prospectus of the Banco da Lavoura, Diário Popular, 30 April 1886.

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114. While short-term commercial credit extended to a planter acted to free up his or her own resources for an agricultural venture, which could be considered an indirect means of agrarian finance, no direct means existed in São Paulo before 1882. According to Provincial Law 145 of 25 June 1881, banks could loan for terms of from five to twenty years at a rate up to 9 percent per year, and were guaranteed 7 percent returns by the provincial government (Coleção de leis e posturas municipais promulgadas pela Assembléa Legislativa Provincial de São Paulo no Ano de 1881). 115. Coleção de leis e posturas municipais promulgadas pela Assembléa Legislativa Provincial de São Paulo no Ano de 1881, Provincial Law 145, 25 June 1881. Profit guarantees meant that if the company did not earn a 6 percent return on capital, the government would supplement the net profit of the company to bring it up to 6 percent. In return, the company would repay the government for the amount supplemented once its profit rate exceeded 6 percent. 116. Correio Paulistano, 1 August 1882. 117. Correio Paulistano, September 2, 1882. 118. Correio Paulistano, 6 October 1882. 119. The figures in this paragraph are from the Banco de Crédito Real balance sheets gathered by the state government as a part of its fiscal oversight responsibilities (Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Number 2139: 1885 –1887). 120. This hypothesis is confirmed by the profit analysis discussed in Chapter 5 and detailed in the Appendix. 121. This expectation bore out in practice. Calculations of bank profitability found that returns to investors were robust throughout the 1880s. See the Appendix for the results of this study.

Chapter 3

Brokers and Business Finance under the Empire

1. Arrom, The Women of Mexico City, shows that while the husband had the right to use the dowry to build the wealth of the family, his rights were limited to the interest on the dowry. In the case of death or divorce, the principal reverted to the wife or her family. Mismanagement of the principal was grounds for an ecclesiastical divorce. She further shows that the dowry, which was part of a woman’s inheritance, allowed unmarried women to become entrepreneurs. 2. Lamoreaux, Insider Lending. 3. Cottrell, Industrial Finance. 4. Mokyr, The Lever of Riches. See especially chap. 5 on the nature and pace of technological innovation during the Industrial Revolution, and chap. 6 on the impact of nineteenth-century technological change on the scale of enterprise. 5. In the recent stock market boom, for example, shares in the “dot com” companies were almost universally offered at $20 per share because this was perceived to be a low price accessible to everyone. It was common knowledge that these stocks would run up as high as $40 –$60 on the first day of trading, mak-

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ing the investing public eager to buy them. A $20 investment could potentially double or triple overnight. Other stocks, such as Warren Buffett’s Berkshire Hathaway stocks, are priced very high to discourage all but a small pool of investors. Berkshire Hathaway A stocks, for example, currently trade at around $94,000 per share, while Berkshire Hathaway B stocks trade at around $3,000 (New York Times, 24 February 2004, sec. W, p. 2). Clearly there are more investors with a spare $20 to risk than there are with a spare $94,000. 6. On the problem of protecting minority shareholding interests and the role of markets and intermediaries in doing so, see Roe, Political Determinants of Corporate Governance, 161– 67. 7. Michie, The London and New York Stock Exchanges, 225 –28. 8. Bruce Carruthers points out that brokers in seventeenth-century England were so important to the rise of the stock market that they were “invariably the scapegoats when the market crashed” (Carruthers, City of Capital, 166 – 67). 9. This section on the role of the securities exchange is drawn from Baumol, The Stock Market and Economic Efficiency, and Werner and Smith, Wall Street. 10. Baumol, The Stock Market and Economic Efficiency, 3. 11. These two examples are known as “income stocks” and “growth stocks.” Income stocks are held for their principal value and dividend payments, rather than their potential for stock price appreciation, and growth stocks are held for their future earnings potential, which, if realized, should translate into stock price appreciation. 12. Carruthers (City of Capital, 168 –70) details the early regulation of English brokers, whose practices in turn were modeled after their Dutch counterparts. 13. Neal argues that the international trade opened up by the era of overseas exploration and discovery after 1492 required innovations in financial instruments capable of turning physical assets (boats and cargo) into liquid assets (promises to pay for those goods). One such innovation was the use of the jointstock format to raise the capital and share the risk of these lengthy overseas voyages (Neal, The Rise of Financial Capitalism, chap. 1). 14. Michie The London Stock Exchange, 16 –17. 15. Cottrell, Industrial Finance, 52 –57. 16. Ibid., 104 –5. Still, 61 percent of industrial companies were formed as private companies in the period 1875 – 83. 17. Birchal, Entrepreneurship in Nineteenth-Century Brazil; Sweigart, “Financing and Marketing Brazilian Export Agriculture”; Pang, In Pursuit of Honor and Power; Levi, The Prados of São Paulo. For a broader perspective on notable family networks, see Balmori, Voss, and Wortman, Notable Family Networks. 18. Levi, The Prados of São Paulo. 19. Pang, In Pursuit of Honor and Power, 108 –19. 20. Almanak administrativo, mercantil e industrial da Província de São Paulo para o ano de 1858; and Almanak da Província de São Paulo para 1873.

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21. Birchal provides a very good account of the difficulties faced by domestic entrepreneurs in Entrepreneurship in Nineteenth-Century Brazil. 22. “Technology” included both machines and the engineers needed to install them and train Brazilians in their use. 23. Summerhill, “Transport Improvements.” 24. A very few joint-stock companies operated in Brazil before this legislation was conceived, but this represented the first attempt to standardize, regulate, and audit the joint-stock format. 25. Leis e Decretos, Decree 575, 10 January 1849. 26. Leis e Decretos, Decree 575, 10 January 1849; and Decree 2733, 23 January 1861. 27. Perhaps the best book on the culture of patronage under the Empire is Graham, Patronage and Politics in Nineteenth-Century Brazil. 28. Leis e Decretos, Decree 2457, 5 September 1859. 29. Leis e Decretos, Law 1083, 22 August 1860. This law formed the basis of a sister decree, Decree 2711 of 19 December 1860. This law was known as the “Lei dos Entraves,” or Law of the Impediments (Tannuri, O Encilhamento, 31). 30. Leis e Decretos, Law 3150, 4 November 1882. 31. Leis e Decretos, Law 1083, 22 August 1860. Lawmakers routinely referred to Brazilian industry as “artificial,” both because they considered Brazil’s top priority to be the advancement of agriculture and because many industrial firms of the time relied on foreign inputs. The government was more interested in guarding against the potential for fraud than in promoting domestic industrialization. 32. Cottrell, Industrial Finance, chap. 3. 33. Michie, The London Stock Exchange, 16 –18. 34. Cottrell, Industrial Finance, chap. 3. 35. Ibid., 41. 36. Leis e Decretos, Commercial Law 556, 25 June 1850, Articles 35 – 67. The gender stipulation, contained in Article 37, was phrased in terms of who could not be a broker: women and those who had gone bankrupt or had been convicted of fraud. 37. Not only were fiadores required in order for a broker to be approved by the Commerce Tribunal, their own good standing had a direct impact on the broker. If one of his guarantors died, moved, or went bankrupt, the broker’s ability to work was suspended until he nominated another fiador (Leis e Decretos, Law 556, 25 June 1850, Article 44). 38. Leis e Decretos, Commercial Law 556, 25 June 1850, and for Rio brokers: Decree 806, 25 July 1851. The Rio decree established the regimen for brokers of the praça do comércio of Rio de Janeiro. The term praça shows up throughout the contemporary journals. Loosely translated, it means “marketplace” and refers to both a physical place and an intangible environment. The Commercial Code defined it as follows: “‘Praça do Comércio’ is not only the place but also

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the coming together of businessmen, . . . brokers and other persons employed in commerce.” 39. Brokers already operating before the enactment of the Commercial Code were given a two-week grace period during which they were to register with the Tribunal (Leis e Decretos, Decree 806, 25 July 1851, Article 1). See Frank, Dutra’s World, for a detailed analysis wealthholding in Rio de Janeiro in this time period. According to his data, this 10:000$000 bond would place the broker in the elite of Rio de Janeiro society. 40. Leis e Decretos, Decree 806, 26 July 1851, Article 41. 41. Leis e Decretos, Decree 2490, 30 September 1859. 42. Leis e Decretos, Decree 2733, 23 January 1861. Article 1 was very specific on this point. It read: “Transactions involving stocks of [private] companies or joint-stock companies, foreign public funds, national public funds (general or provincial), precious metals, foreign exchange, commercial loans and acceptances, commercial paper that may establish in the market some price and regular exchange, and involving any other titles which can be quoted by any individuals even though they might not be businessmen, shall only take place through the intermediation of brokers of public funds, competently nominated, under penalty of nullification.” 43. Article 15, for example, states: “Any broker knowing of illegal or irregular trades and does not report them is subject to fines and will be suspended” (Leis e Decretos, Decree 2733, 23 January 1861). 44. Leis e Decretos, Decree 6132, 4 March 1876. 45. The transactions regulated here were trades of national or foreign public debt bonds, foreign exchange, commercial loans, shares of state-authorized companies, and precious metals. 46. Ministério do Trabalho, Indústria e Comércio, Soceidades mercantis autorizadas a funcionar no Brasil (1808 –1946). 47. Paid-in capital amounts for the Banco Mercantil de Santos, the Sorocabana and Paulista Railways, and the Companhia Carris de Ferro de São Paulo (urban trolleys) were found in the Rio de Janeiro stock exchange summary in the 1877 Retrospecto Commercial do Jornal do Commércio. The values for the Mogiana and Ituana railways and the Banco do Brasil were drawn from the balance sheets for each company. 48. These companies and their founding dates were: Companhia União Paulista—1872 (maritime insurance); Companhia Melhoramentos da Cidade de Santos—1872 (public utilities); Companhia Campineira—1873 (public utilities); Companhia Fluvial Paulista—1873 (river transportation); Companhia Estrada de Ferro de São Paulo e Rio de Janeiro—1874 (railroad); Companhia Industrial Jundiahyana—1876 (unknown); Companhia Assucareira de Porto Feliz—1876 (sugar mill); Companhia Iguapense de Navegação a Vapor—1877 (river navigation); Companhia Consumo de Pão—1878 (bread maker); Com-

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panhia Cantareira e Esgotos de São Paulo—1878 (water and sewer); and Companhia Consumo de Carnes Verdes—1878 (meatpacking) (Ministério do Trabalho, Indústria e Comércio, Soceidades mercantis autorizadas a funcionar no Brasil [1808 –1946]). 49. Correio Paulistano, 18 January 1880. 50. Commissions for different types of broker services were set by law, but the advertisements suggest that there was some degree of flexibility in the rates. Brokers were free, for example, to charge less than the established rate. 51. Correio Paulistano, 1 March 1878, 1 April 1880, 21 April 1880. 52. Correio Paulistano, 1 August 1882, 2 September 1882. 53. Correio Paulistano, 26 July 1881. 54. Diário Popular, 19 January 1888. 55. Companhia Mogiana Estrada de Ferro, Relatório, 25 January 1874. Virtually all shares of all companies carried the same face value of 200 mil-réis. Thus, 15,000 shares carried a par value of 3 million mil-réis, which can also be expressed as 3,000 contos. A mil-réis was worth about US$0.50 in the 1870s. 56. The reason for separate accounts lay in the profit guarantee program run by the government. The provincial government offered certain development projects a guaranteed rate of return in order to be sure to attract investment capital. In the case of the Mogiana, some lines enjoyed profit guarantees while others did not, and so each had to be accounted for separately. 57. The first railroad in São Paulo was the English-owned São Paulo Railway Company, which used British capital to build a line from the port city of Santos to the interior town of Jundiaí. All subsequent railway construction, which extended that original line in a web reaching into the countryside, was financed domestically. The Companhia Paulista’s first line linked Jundiaí to Campinas, the premier city in the coffee growing region. It was inaugurated on 11 August 1872. 58. Companhia Paulista Estrada de Ferro, Relatório, 24 August 1873. 59. The Sorocabana Railroad Company experienced similar demand for its shares. When the company first set out to raise its capital, it was approached by London financiers who offered to place 10,000 shares with a par value of 200 mil-réis apiece. The financiers would keep 10 percent of the amount as their fee, turn 1,800,000 of the total 2,000,000 mil-réis of capital over to the Sorocabana, and the company would agree to pay full dividends on the par value of the stock. The Sorocabana directors declined the offer and hired a private banking house in Rio de Janeiro to sell 15,000 shares in or out of the country. The first call produced a subscription of 20,000 shares, double the number the London financiers thought would sell, at a price of 207 mil-réis each (Companhia Sorocabana da Estrada de Ferro, Relatório, 2 January 1872). 60. Companhia Paulista Estrada de Ferro, Relatórios, 28 August 1874, 28 February 1875, 4 September 1875, 20 February 1876, 1 September 1876, 28 February 1877, 25 August 1877, 26 February 1882, 27 August 1882, 25 Feb-

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ruary 1883, 25 August 1883, February 1884, August 1884, February 1885, 27 September 1885, 4 April 1886. 61. The difference between potential capital and paid-in capital is due to the manner in which stocks were acquired. Companies had an authorized capital ceiling, and called on their shareholders to pay in a percentage of the par value of their stock according to the company’s need for capital. There were, in the case of these five banks, 47,500 shares in the hands of shareholders, who were obligated to pay up to 200 mil-réis per share, should the banks require the funds for operations. Actual paid-in capital in 1888 totaled 4,988 contos, or 51 percent of the total authorized amount. 62. The total number of authorized shares rose from 5,000 to 50,000. 63. The Banco de Crédito Real absorbed the Banco Comercial in 1890, accounting for a portion of the increase in value, but the Banco Comercial equity capital was worth only 1,000 contos; 2,300 more contos represented new equity capital. 64. Correio Paulistano, 8 October 1887, 5 November 1887. See also, Relatório apresentado ao Presidente da República de São Paulo pela Comissão Central de Estatística. This latter report included a table titled “Aço˜es de Companhias em 31 dezembro de 1886.” Several of the stock quotes pertain to the multiple issues by a single railway company. 65. For a detailed history on the development of the São Paulo banking sector, see Hanley, “Capital Markets in the Coffee Economy,” chap. 3. 66. The guarantees were awarded to each branch line to pay returns to investors during the years of losses. Once a line began to earn a profit above a set threshold, usually 7 percent, it used the excess profits to repay the government for the guarantee funds it had received. 67. Companhia Mogiana Estrada de Ferro, Relatórios, 25 January 1874, and 1887. 68. Correio Paulistano, 4 February 1881. 69. O Estado de São Paulo, 3 January 1890. 70. The published complaint pointed out that the high water prices were especially repugnant considering that the water was provided free to the company by God. This drew the response from the company president that God’s water lives in the mountains, not the city (Correio Paulistano, 1 April 1884). 71. Arquivo do Estado de São Paulo, Seção de Manuscritos, “Obras Públicas,” Order Number 5208: 1886, lata 71, 19 February 1886. 72. Mello, who examined inventories to study the structural changes in wealth from the period 1845 to 1895, writes that when taking account of the elements that constituted personal fortune, “we see that the declining participation of slaves corresponds to the increase in real property. But this was not the only thing that increased its share of wealth; new forms, . . . particularly company stocks, increased their participation” (Mello, Metamorfoses da riqueza, 87). 73. Ibid., 94 –103.

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74. Companhia Paulista Estrada de Ferro, Relatório, 20 February 1876. 75. Like the Paulista, the Mogiana’s reserve funds were held in its own stocks, valued at par in the 1870s, but it moved its reserves into bonds in the 1880s. By the 1890s, its reserve funds were held entirely in government bonds (Companhia Mogiana Estrada de Ferro, Relatórios, 25 August 1878, 23 September 1883). 76. Companhia Paulista Estrada de Ferro, Relatório, 1 September 1876. 77. Companhia Sorocabana Estrada de Ferro, Relatórios, 4 March 1876, 3 September 1876. This was the Sorocabana’s fourth year in operation. 78. Companhia Paulista Estrada de Ferro, Relatório, 28 February 1875. 79. Companhia Paulista Estrada de Ferro, Relatório, 27 February 1881. 80. Companhia Sorocabana Estrada de Ferro, Relatório, 17 March 1878. The Sorocabana, via the Deutsche-Brasilianische Bank, contracted a loan of 200,000 pounds sterling. The loan was raised through the issue of 4,600 debentures at the par value of 50 pounds sterling each. The going price was 85 percent, or 42.5 pounds sterling each, raising 1,944,871 mil-réis. 81. Companhia Paulista Estrada de Ferro, Relatórios. The bond issue was announced in the annual report dated 31 August 1878. The following report, 28 February 1879, announced that the bond issue of 1,500 debentures at the par value of 100 pounds sterling each, totaling 150,000 pounds sterling, raised 1,668.907 mil-réis. The debenture issue was handled by the English Bank of Rio de Janeiro and sold on the London exchange. 82. Companhia Ituana Estrada de Ferro, Relatório, 17 April 1887. The company issued 1,400 debenture bonds at 50 pounds sterling each, for a total of 70,000 pounds sterling, at an annual interest rate of 6 percent. 83. Relatório apresentado ao Presidente da República de São Paulo pela Comissão Central de Estatística. Eight of the fifteen debenture issues were denominated in mil-réis, indicating that they were originally issued in Brazil. The remaining eight issues were denominated in pounds sterling, indicating that they were issued in London and required repayment in pounds sterling at the exchange rate of the day. Because of the fluctuating exchange rate, and its almost steady decline, the London bonds represented a greater financial burden to the companies. In compensation, they carried among the lowest interest rates. 84. Mello, Metamorfoses da riqueza. 85. An outstanding source on foreign investment in Brazil is Castro, As empresas estrangeiras.

Chaper 4

The Republican Revolution and the Rise of the Bolsa

1. For an excellent analysis of the end of the Empire, see Costa, The Brazilian Empire, chap. 8. 2. The exception to this rule was the Amazon. The rubber boom, which roughly coincided with the coffee boom, produced wealthy rubber barons but

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did not garner for them the same national political clout captured by the coffee barons. The barons were able to influence policy to their benefit to some degree, but they never controlled the apparatus of the state the way the coffee and ranching interests of São Paulo and Minas Gerais did (Weinstein, The Amazon Rubber Boom; Dean, Brazil and the Struggle for Rubber). 3. On the economic policies and priorities of the Republican regime, see Topik, The Political Economy of the Brazilian State. 4. A very good source on the urban support for these policies is Topik, Trade and Gunboats. 5. The term comes from horse racing. Encilhamento means “saddling-up” and connotes the frenzied energy in the starting gates just as the race is about to begin. 6. While São Paulo’s Encilhamento boom dates to the months immediately after the commercial legislation reform of January 1890, research on the Encilhamento in Rio de Janeiro dates its beginning with late-Empire banking reforms. These 1888 reforms eased credit and introduced substantial liquidity into the economy, producing substantial profits for Rio banks and their shareholders. This banking boom spilled over to all stock market transactions, sparking new business formations. This earlier jump in incorporations was facilitated by the existence of a formal stock and bond exchange in Rio de Janeiro. On Rio, see Levy, “O Encilhamento,” and Topik, “Brazil’s Bourgeois Revolution?” Levy makes the point that the Encilhamento was not the first time Brazilians engaged in speculative activity. In fact, insiders had speculated on the currency and commodity markets long before the Encilhamento took place. The difference was that these types of speculative activities “had not involved the less informed public.” The Encilhamento, in contrast, drew thousands of individual investors into the market for the first time (Levy, “O Encilhamento,” 192). 7. “São Paulo e o jogo,” Diário Popular, 14 February 1891. 8. Fishlow, “Origins and Consequences”; Stein, The Brazilian Cotton Manufacture. 9. Leis e Decretos, Decree 164, 17 January 1890. 10. The number of business formations in 1890 is from BOVESPA, Uma história centenária, 15 –16. The number of joint-stock companies operating in São Paulo in late 1887 is from stock quotes printed in the Correio Paulistano, 5 November 1887. 11. Correio Paulistano, 8 April 1890. These companies included the Paulista, Mogiana, and São Paulo–Rio de Janeiro railways, the São Paulo and São Paulo to Santo Amaro tram companies, the water and sewer company, the Banco de São Paulo, Banco de Crédito Real, and Banco Provincial. 12. Correio Paulistano, 12 April 1890. 13. Correio Paulistano, 18 May 1890. The 23 percent figure is based on shares issued, not authorized. The company had raised the authorized capital from

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5,000,000 mil-réis, or 25,000 shares at 200 mil-réis, to 40,000,000 mil-réis, or 200,000 shares, in 1890. However, as of January 1891, only 25,000 shares had been issued. 14. Correio Paulistano, 11 July 1890. 15. Correio Paulistano, 17 July 1890. 16. The Banco Construtor e Agrícola provides a good metaphor for the Encilhamento in other ways than this excitement surrounding their stock issue. While the founders opted to raise the level of authorized capital to 25,000,000 mil-réis, the most ever paid in was just over 11,000,000. By 31 December 1892, the excessive enthusiasm of the Encilhamento had been tempered and the authorized capital reported on the bank’s balance sheet had been adjusted downward to 11,000,000 mil-réis in an acknowledgment of the bank’s true capital position. 17. The data on the São Paulo Bolsa were taken from published reports in three contemporary São Paulo journals. These were the Retrospecto Commercial do Jornal do Commércio, the Correio Paulistano, and O Estado de São Paulo. I used the Retrospecto Commercial for comparative data on the Rio de Janeiro exchange as well. For the period 1886 –1904, I compiled stock reports and transactions from information published in weekly columns. For the period 1905 –1917, I used summary tables published every January reflecting the balance sheet of the Bolsa at the end of the previous semester. Annual reports for individual companies provided complimentary information. 18. There was such a council in Santos, the main port of the province. An article printed in the Diário Popular on 9 November 1889 announced that the Santos brokers’ council was disbanding. This announcement followed several notices in the paper that the brokers were fighting among themselves. The article of 9 November said that the council was not meeting regularly and did not have the necessary personnel to serve the merchants, given that the number of brokers was reduced to three. It is not likely that these brokers were stockbrokers, given the import/export business that predominated in Santos. The legislation regulating brokerage activities defined three classes of brokers: brokers of public funds, of ships, and of merchandise. The brokers mentioned in the story probably belonged to the latter two classes (see Leis e Decretos, Decree 806, 26 July 1851). 19. BOVESPA, Uma História Centenária. 20. Ibid., 14. 21. I gathered stock prices and trading volume for one week of every month. During this week, which was always the second week of the month, the Bolsa accounted for between 3 percent and 21 percent of trading volume. Of the ten representative weeks I researched, the Bolsa accounted for 0 percent– 3 percent on three occasions, 9 percent–14 percent on four occasions, and 17 percent–21 percent on three occasions. 22. Leis e Decretos, Decree 850, 13 October 1890.

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23. “São Paulo e o Jogo,” Diário Popular, 14 February 1891. 24. Correio Paulistano, 2 May 1891. The term “par value” means the face value of the share at the time of its issue. Original investors paid the par value for the stock. In the secondary market, the value of the stock usually deviated from par, rising above par in the face of strong demand and falling below par when demand was weak. Expectations about company performance, expressed every six months as profits, influenced the stock price. 25. Correio Paulistano, 30 January 1892. These listings announced trades of bank and railroad stocks. 26. A study conducted by the modern-day Bolsa into its own history tallied business failures at 20 in 1892, 15 companies in 1893, and 15 more in 1894. Even if we assume that the only businesses founded during the Encilhamento were the 207 founded in the first half of 1890, this failure rate would have left 157 new companies still operating (BOVESPA, Uma História Centenária, 17). 27. Companhia Paulista Estrada de Ferro, Relatório, 30 April 1892. 28. Companhia Mogiana Estrada de Ferro, Relatórios, 14 May 1893, 5 May 1895. 29. In 1891 large investors holding two hundred or more shares of stock comprised more than 20 percent of all investors. By 1894 the representation of large holders (two hundred or more shares) had fallen to 17 percent of all investors. In absolute numbers, 221 of 1,093 investors in 1891 held two hundred or more shares of Mogiana stock. In 1894, only 246 of 1,438 investors held over two hundred shares. 30. This became the Associação Comercial de São Paulo, an important business organization in modern-day São Paulo. 31. “Organização da Bolsa,” Correio Paulistano, 28 January 1895. 32. Ibid. 33. Correio Paulistano, 28 January 1895, 15 February 1895. At the time of its reinstatement, the Bolsa listed the stocks of just ten banks and joint-stock companies and six debt issues, compared to the stocks of twenty-one banks and companies and one debt issue traded on the first Bolsa. By the following month, however, twenty banks and companies were represented, in addition to nine separate debt issues. The expansion of the Bolsa continued to 1896, when fifty-seven stocks and fourteen debt issues were listed. For comparative purposes, I counted only the stocks that were actually traded on the Bolsa. As I noted earlier, most trades during 1890 –91 took place by private brokerage firms. 34. The money supply, which had grown at a mere 1–2 percent annual rate for the previous twenty years, grew at almost 12 percent per trimester for two years (Pelaez and Suzigan, História monetária, 174). 35. After 1892 all changes in the money supply, including some highly inflationary treasury issues after 1896, came at the hands of the federal treasury (Normano, Brazil: A Study of Economic Types, 177– 81).

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36. The statistics in this paragraph are drawn from Holloway, The Brazilian Coffee Valorization of 1906. 37. The drop in domestic prices, ameliorated somewhat by the devaluation of the exchange rate, was 25 percent. The sterling value of total Brazilian exports fell by 13 percent from 1895 to 1896. This last statistic is from Leff, Underdevelopment and Development, 1:247. 38. Pelaez and Suzigan, História monetária, 178 –79. 39. Import duties contributed more than 50 percent of federal government revenues on average in the second half of the nineteenth century (Topik, “The State’s Contribution,” 212 –15). Villela and Suzigan estimate that import duties accounted for almost 92 percent of federal government receipts for 1896 –99 (Villela and Suzigan, Política do governo, 36 –37). 40. The Brazilian government ran a deficit of greater than 5 percent of revenues in forty-two of sixty-six years between 1823 and 1889. In twelve of those years, the deficit was greater than 50 percent of revenues (Leff, Underdevelopment and Development, 2:82 – 83). The deficits were largely paid for by foreign loans, which grew from $30 million in 1850 to $150 million in 1889 (Topik, “The State’s Contribution,” 207). In 1898 the public debt service alone was responsible for 53 percent of total government expenditures, and federal spending was double federal revenues (Villela and Suzigan, Política do governo, 36 –37). 41. Joaquim Murtinho served as finance minister under President Campos Salles from 1898 to 1902. 42. Pelaez and Suzigan, História monetária, 181– 82. Interestingly, the inflationary effects of the Encilhamento had been limited due to interventionist policies during 1891–94. The bout of inflation that Murtinho was dealing with had resulted from Treasury note issues after 1896. 43. Murtinho argued that any form of Brazilian industry was “artificial,” having been founded only because of inappropriate tariff policies or unfortunate inflationary cycles. He based his argument in his belief that Brazilians were racially inferior to the populations of the northern industrialized countries (Pelaez and Suzigan, História monetária, 181– 82). Fortunately for Brazilian domestic industry, many congressional deputies who wrote the consumption taxes and tariff laws that would spell protection or demise believed that industry had a place in the domestic economy. Still, the laws went against domestic industry in many cases during Murtinho’s reign, even in cases that had no effect on federal revenues, positive or negative (Annaes da Câmara dos Deputados, August– October 1899). 44. In exchange for the lenient terms, Brazil was to periodically deposit funds to retire the bonds of this loan held by the London bankers, was to retire banknotes from circulation and burn them, and was to balance its budget. Támas Szmrecsányi argues that the policies were not specific to Murtinho, but were a continuation of policies formulated by Francisco de Paula Rodrigues

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Alves, who would succeed Campos Salles in the presidency (1902 –1906) and who had served as finance minister from November 1891 to August 1892, and then again from 1894 to 1896. Szmrecsányi makes the important point that Finance Minister Murtinho and President Campos Salles inherited, rather than engineered, the Funding Loan of 1898. Negotiations for the bailout had begun in the previous administration, leaving Murtinho and Campos Salles only to ratify the agreement (Szmrecsányi, “Origens e Consequências”). 45. On exchange rate, see Holloway, The Brazilian Coffee Valorization of 1906, 89. On money supply, Pelaez and Suzigan, História monetária, 183. 46. The domestic products most heavily taxed were alcoholic and nonalcoholic beverages, tobacco, matches, shoes, candles, perfumes, pharmaceuticals, and processed foodstuffs (Annaes da Câmara dos Deputados, August 1899, 181– 84). 47. This allegation was advanced by a São Paulo company, Christoffel Stupakoff, which produced beer, distilled spirits, mineral water, and perfume. It complained in its annual report that illegal manufacturers were undercutting the prices of the established manufacturers (O Estado de São Paulo, 28 March 1899). 48. On the real gains experienced during the Encilhamento, see Fishlow, “Origins and Consequences.” 49. For sources and a listing of all identified companies, see Appendix A in Hanley, “Capital Markets in the Coffee Economy.” 50. Cano, Raízes da concentração industrial, 163, 221–22, 225. Cano’s figure is for 1907. Because the spurt of industrialization is generally considered to have begun in 1905, the capital value for industry was sure to have been lower in 1905 than in 1907. The 16 percent value calculated here, then, understates the importance of the Bolsa in raising capital for São Paulo’s emerging industrial base. 51. It is possible that other food processing firms existed, but none were alluded to in the historical monographs I consulted or in the contemporary journals. 52. The mill, Central de Moinhos, was identified by name but not by activity. 53. Two other firms engaged in machinery and metalworking, but they were foreign owned and therefore were not traded. Foreign firms did not tend to be traded on the São Paulo Exchange. There are no price quotes for any foreignowned firms, banks or non-banking firms, on the Bolsa throughout the period studied here. 54. Dean, The Industrialization of São Paulo, 37, 74 –75. Dean writes that the Paulista’s repair shops made railway carriages and that by 1911 entire locomotives were being assembled in the shops. 55. Virtually none of the textile firms operating in São Paulo before 1905 were financed through equity capital. Just one of eighteen cotton textile firms

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in existence at this time was listed on the Bolsa. A second, the Fábrica Votorantim, was traded via the stock of its parent company, the Banco União de São Paulo. The Crespi cotton textile company went public in 1909. 56. Levi, The Prados of São Paulo, 144 – 48. 57. The twenty-eight stocks listed in 1886 placed 430,612 shares in the hands of investors. The twenty-eight stocks in 1905 placed 1,216,042 shares with investors. Similarly, the 1886 issues totaled 70,312,400 mil-réis (nominal) of paid-in capital. The 1905 issues totaled 213,025,000 mil-réis (nominal) of paid-in capital. In real terms, paid-in capital slightly more than doubled. 58. Most notably absent were the mills and the urban transport companies. 59. Companhia Paulista Estrada de Ferro, Relatórios, 30 April 1893, 30 June 1905; the Companhia Paulista listed 1,069 shareholders as of April 1893 and 2,119 as of June 1905. Also, Companhia Mogiana Estrada de Ferro, Relatórios, 25 October 1891, 21 June 1903; the Companhia Mogiana listed 1,093 shareholders in October of 1891 and 2,163 shareholders in June of 1903. 60. Cano, Raízes da concentração industrial, 310. São Paulo’s population in 1890 was approximately 1.4 million. This grew to 2.3 million in 1900, an increase of 64 percent. The population of shareholders in these two companies increased 90 percent in roughly the same period. 61. My definition for what determined a large shareholder changed over time as the number of shareholders grew, so it is not possible to pinpoint precisely when the holdings became less concentrated, but there are several statements I can comfortably make from my data. For the Companhia Mogiana, the percentage of shareholders owning two hundred or more shares of stock was 20 percent in 1891 and 17 percent in 1894. The percentage of shareholders owning three hundred or more shares of stock was 13.6 percent in 1899, 10 percent in 1903, and 8.2 percent in 1907. A clear pattern of decline is evident. For the Companhia Paulista, the number of shareholders owning five hundred or more shares of stock was 13.8 percent in 1893 and fell to 7.9 percent by 1905. 62. The city of São Paulo raised seven loans through bond issues from 1884 to 1904, five of which were on the books in 1901. In 1901, the seven bonds listed on the Bolsa corresponded to three municipalities. In 1902, the twelve bonds corresponded to seven municipalities. 63. O Estado de São Paulo, 7 January 1906. By 1907, twenty-three bonds representing twenty-one municipalities were listed on the exchange, suggesting that the practice of raising loans on the Bolsa continued. The number would have been higher but six of the seven São Paulo City bonds had reached maturity and were retired in 1906. 64. This company produced paper, ceramics, and lime. 65. The diversity of stock and bond listings at the height of this boom is captured in Schompré, La Bourse de São Paulo. This book compiles snapshots of each corporation and government agency whose stocks and bonds were listed on the

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São Paulo Bolsa on 30 June 1911, including their locations, dates of incorporation, capitalization, administrative structure, balance sheets and profit-and-loss statements at that date. I would like to thank Joseph Love for his generous gift of this rare book. 66. Holloway, The Brazilian Coffee Valorization of 1906, 87– 89. NonBrazilian coffee production throughout this period averaged between four million and five million bags of coffee. Brazilian production was the only source of growth in world coffee supply. Because of the overproduction provoked by the 1886 –96 planting boom, the unabsorbed stocks of coffee rose from 2 –3 million bags in the early 1890s to 6 –11 million bags at the turn of the century. International prices reflected this, having fallen from 87 francs per bag in 1895, to 58 francs in 1896, and to 34 francs by 1902. 67. The coffee sector had just weathered a bumper crop in 1901, which pushed the world visible supply up to 70 percent of the world’s total absorptive capacity. It took years, small crops, and frosts to compensate for this bumper crop. The supplies were beginning to decline when the news came of the impending bumper crop of 1906. For a detailed history of coffee overproduction and protectionist policies, see Holloway, The Brazilian Coffee Valorization of 1906. 68. Villela and Suzigan, Política do governo, 114 –15. 69. The effect of the scheme was not felt in the coffee market before 1908. Financial theory tells us, however, that the market discounts information as soon as it is available, even when its full effect will take place in the future. Therefore, the 1906 agreement established an expectation on the part of economic actors that the economy would strengthen. This expectation drives my periodization. 70. Public utilities or public services companies provided urban transportation, gas and electricity, and water and sewer services. They always had a respectable presence among publicly traded companies. The remarkable thing about the post-1905 period is that the other “traditional” companies using the public market—banks and railroads—were in relative decline and public utilities were entering their heyday. This boom in companies took place in areas of recent settlement in the state of São Paulo. 71. The urban firms comprised two-thirds of all companies listed on the Bolsa. Approximately 35 percent were industrial companies and another 30 percent were in modern urban sectors like construction, printing, service and entertainment, etc. 72. Industrial and commercial firms comprised 39 percent of capital, while public utilities provided an additional 13.9 percent. 73. The areas closest to the capital city of São Paulo and its port city, Santos, were settled first for transportation reasons. Railroads were initially built into these areas to improve transportation to the port, but later (1890s– early 1900s) were used to open up new areas of the state for cultivation. 74. Population and immigration figures are from Cano, Raízes da concentração

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industrial, tables 71–73, 308 –10. The state population was approximately 800,000 in 1872 and 2.2 million in 1900. 75. The classic work by Camargo regarding the growth and distribution of São Paulo’s population identifies ten distinct zones. Zones 1 through 5 and Zone 10 (the coastal area) are the oldest settled areas in São Paulo. Zones 1, 3, 4, and 5 represent the classic Paulista Oeste coffee-growing region. Zones 6 through 9 were opened up to coffee production after the turn of the century. Zones 6 and 8 were the two fastest growing regions in the period between 1900 and 1920 (Camargo, Crescimento da população no Estado de São Paulo, vol. 1). 76. Tellingly, the production of cotton cloth, hats, and shoes, presumably to clothe this population, doubled from 1905 to 1910 (Cano, Raízes da concentração industrial, 152). 77. When I refer to the textile industry, I include all firms producing wool, silk, and cotton textiles. When I refer specifically to cotton textiles, I have adjusted the figures to remove the wool and silk firms from my totals. 78. The textile sector peaked in importance in 1916 at twenty-four firms worth 11.7 percent of the total equity value of the Bolsa. 79. Cano counts eighteen firms in São Paulo by 1907 (Raízes da concentração industrial, table 55, 292). The one textile firm actively traded before 1905, Votorantim, was traded through its parent company, a publicly traded bank known as the Banco União de São Paulo. It did not trade solely as a textile firm until 1909. Another, the Companhia Fabril Paulistana, appeared on stock summaries in São Paulo newspapers but was financed and traded on the Rio exchange. 80. There were eighteen cotton textile firms in São Paulo in 1905 with a total capitalization of 29,600 contos. The single listed firm, the Companhia Industrial de São Paulo, had equity capital worth 2,000 contos and a debenture bond worth 1,200 contos outstanding. It is worth noting that a second firm, the Banco União de São Paulo, worth 5,000 contos, was almost exclusively dedicated to the Votorantim textile business at this time but still figured as a bank in the stock exchange listings. The year-end stock exchange accounts for 1908 note that the bank’s financial portfolio is in liquidation. It reappeared in 1909 as the Banco União/Votorantim textile company, again valued at 5,000 contos of equity capital and no outstanding debt. If we include the capitalization of this second firm, the listed value of cotton textile capital relative to total cotton textile capital in 1905 rises to almost 38 percent (see Cano, Raízes da concentração industrial, table 55, 292; and “Quadro de Títulos de Companhias, de Rendas e Acço˜es,” O Estado de São Paulo, 7 January 1906, 24 January 1909, and 28 January 1910). 81. Twenty-one of São Paulo forty-six firms were publicly financed. The total capitalization of these firms amounted to 53 percent of capital invested in cotton textile firms. To arrive at these figures, I compare the capital value of the cotton textile firms quoted on the Bolsa in 1905, 1909, and 1915 with the capital values calculated by Cano for the industry in 1905, 1910, and 1915 (see

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Cano, Raízes da concentração industrial, 292; and “Quadro de Títulos de Companhias, de Rendas e Acço˜es,” O Estado de São Paulo, 7 January 1906, 28 January 1910, and 21 January 1916). 82. Cano’s figures on the capital value of cotton textile industry growth from 1905 to 1915 totaled 51,900 contos. The difference in the value of listed firms from 1905 to 1915 was 40,600, or 78 percent of all new capital formation. 83. Using the 1907 industrial census, Cano estimates that there were 1,114 industrial establishments in the state of São Paulo, valued at a total of 131,900 contos (Cano, Raízes da concentração industrial, 163, 221–22, 225). I identified fourteen industrial companies quoted on the Bolsa in 1907, worth 24,109 contos, or 18.3 percent of São Paulo’s total industrial capital. By 1912, according to Cano, São Paulo’s sixty-four joint-stock industrial firms contributed 18 percent to all of Brazilian industrial capital for that year (Cano, Raízes da concentração industrial, table 68, 306). 84. Cano, Raízes da concentração industrial, table 64, 303. Cano separates out joint-stock companies, sole proprietor firms, and “Other.” The total universe in the 1920 census was 4,145 industrial firms. This breaks down, roughly, to 128 joint-stock industrial companies. 85. Cano, Raízes da concentração industrial, table 68, 306. Cano breaks down the companies into size groups of less than 0.5 contos, 0.5 –1 conto, 1–5, 5 –10, and so on. The median firm lies in the 0.5 –1 conto group. The exchange rate for this year was US$0.32 per mil-réis. Rates ranged between US$0.31 and US$0.33 during the period 1905 –13. Exchange rates come from Barreto, “Relaço˜es econômicas.” 86. The firm sitting on the median was the Companhia Mac Hardy, an agricultural machinery and metalworking manufacturer, worth 976 contos. 87. Cano quantifies the number of industrial firms in Brazil in 1912 by capital size in table 68, “Concentration of Industrial Establishments According to Capital Employed” (see Raízes da concentração industrial, 305). There were 801 industrial firms with capital of 25 contos or more in all of Brazil. These 801 companies were worth 437,498 contos. All 64 of my listed firms were worth more than 25 contos. These 64 were worth 84,717 contos, or 18.4 percent of total Brazilianindustrial capital. 88. The average size of all firms listed on the Bolsa in 1912 was 2,276 contos. Two of these firms were very large. If you subtract out the two largest railroads, the average value of the remaining firms was 1,340. (The Paulista and Mogiana Railroads were each worth 80,000 contos, and skew the average values upward. The next largest company was worth just 10,000.) 89. The exception was a textile company, the Fabril Paulistana, which was headquartered in Rio de Janeiro and financed through a stock issue first quoted on the Rio Bolsa in 1904. It disappeared from the São Paulo Bolsa Summary in 1913. A São Paulo-based company with the same name but headquartered and financed in São Paulo appeared two years later in 1915.

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90. Information on the Santos exchange was culled from stock exchange listings printed daily in the journal O Estado de São Paulo. I consulted the journal for the months of January, February, July, and August for every year between 1890 and 1920 to gather financial statements and stock market quotes. 91. Triner, “Banks and Brazilian Economic Development.” 92. At the time this research was undertaken, the Junta Comercial de São Paulo was working to catalog and cross-index its holdings, originally filed chronologically rather than by corporation or sector. In all probability, it is a more viable archive for business records. These tended to be articles of incorporation. In addition to the Junta Comercial, the Eletropaulo archives contain interesting, varied, but incomplete records on some public utilities companies. Aside from these archives, the only good source of business records was for the railroad companies. The annual reports of these companies are held in the São Paulo State Archive and provide a complete picture of stock ownership. In both the Mogiana and Paulista railways, the post-1906 period was one of sharply increasing concentration of stock ownership in the hands of well-known elite extended families and a few banks. Director information for other companies formed after 1906, however, is limited to occasional references from financial statements and annual report summaries printed in the newspaper. Still, these companies do not typically list the high-profile investor elite that dominated the much smaller business world of the 1890s. 93. I do not measure returns over time for the simple reason that the sample would be too small. While I have stock prices for between one-half and all companies in a given year, the prices from year to year are not always for the same companies. 94. The rate of return can influence an investor’s interest in a stock, but not all investors investors seek to buy stocks based on the return, nor do all investors seek the same level of return. Some prefer to invest in companies that return lower gains to their shareholders precisely because they are conservative companies. Other investors with higher risk profiles will invest in high-risk, highreturn stocks, preferring to bet that they will capture large gains. Finally, investors often select a mix of high- and low-return stocks and bonds to diversify their portfolios and therefore their risk exposure. 95. I use the term “par value” because virtually every stock by this time was fully paid in. There were a few among the total universe of companies that still had not called in all their capital. For these companies I calculated the trade price against the paid-in value of the stock. 96. Shares outstanding held at the 1913 level for the remainder of the period. 97. If we measure the relative share of companies issuing debenture bonds by their weight in the total capitalization of their sector, then the prevalence of debentures becomes even greater. For industrial firms, the equity capital of industrial companies issuing debentures relative to the equity of all industrial

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companies is approximately two-thirds of the total. For non-industrial companies, it is between one-third and one-half of total equity capital. 98. Domestic railroad bond issues were historically few, numbering just one or two. During the period 1909 –17, between three and five railroad bonds were denominated in foreign currency. Just one or two issues of bank mortgagebacked notes were in circulation at this time. Therefore, all growth in the bond market was through utilities, industrials, or other non-industrial companies. 99. Six of the eighteen bonds issued by textile companies were issued for companies founded in 1912 and 1913. 100. Dean, The Industrialization of São Paulo, and Topik, The Political Economy of the Brazilian State, are good examples of this. 101. Stone, The Composition and Distribution of British Investment. 102. Ibid., 147. British capital comprised about 53 percent of total foreign investment in Brazil between 1903 and 1913 (Castro, As empresas estrangeiras no Brasil, 99). 103. The Canadian-owned São Paulo Tramway, Light and Power Company was formed in 1899 to electrify São Paulo’s mule-drawn tramway system. In 1911 it merged with the Canadian-based Rio de Janeiro Tramway, Light and Power Company (which over the first decade of the century had been buying up other Rio utilities companies) and the São Paulo Electric Company to form the Brazilian Traction, Light and Power Company (Castro, As empresas estrangeiras no Brasil, 110 –12). 104. While the State of São Paulo had gone to the foreign market to raise funds prior to 1906, those loans did not approach the value of the post-1906 loans (O Estado de São Paulo, Bolsa Summary Page, January, various years). 105. Loan values are from O Estado de São Paulo Bolsa Summary Page, January, various years. The other two participants at the 1906 coffee conference, Minas Gerais and Rio de Janeiro, decided not to go ahead with the coffee defense program. Rio’s coffee production had declined in total importance to that state’s economy, and Minas Gerais coffee was not of export-grade quality. It was consumed domestically. The São Paulo coffee was both the best quality and of the most importance to a state’s economy. The state government, therefore, decided to forge ahead. It raised the loans and paid for them through a gold tax on coffee exports. Data on the value of the loans is from the Bolsa Summary Page of the newspaper O Estado de São Paulo, January 1908 and January 1909. Details on the foreign loans and their purposes during this period are found in Barreto, “Relaço˜es econômicas.” 106. Cano simply lists the remaining 34 percent of industrial capital as “Other.” The third common type of business format in Brazil in this era was the limited partnership (Cano, Raízes da concentração industrial, 303). 107. A company-by-company review of foreign business in Brazil by Barreto finds that most foreign firms invested in cattle raising, mining, extractive, and transportation endeavors (Barreto, “Relaço˜es econômicas”).

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108. In the 1920s Light would build a hydroelectric station at Cubatão, near Santos, providing important overhead to heavy industry (Dean, The Industrialization of São Paulo, 110). Population statistics are from Camargo, Crescimento da população no Estado de São Paulo, 1:83 – 84. They reflect the percentage of total state population residing in the capital city in 1900. 109. These trends are self-reinforcing. My market-to-par ratios reflect only companies with a price quote. The low level of trading activity meant that only a few companies were now driving these ratios. Other companies went untraded altogether. 110. As a testament to investor interest in bonds, these were still quoted at a rate of 1 in 2. 111. The exception was the cotton textile mill Votorantim. This company declared bankruptcy after 1916, causing it to fall out of my 1917 counts, but survived to see another day. It was reorganized under bankruptcy protection, or “rehabilitated,” in contemporary parlance, and reappeared in 1918. 112. This is a small group. Just three active scholars currently study the Brazilian stock and bond markets, directly or indirectly, and very little work had been done on it previously. For recent research, see Haber, “Industrial Concentration and the Capital Markets”; Hanley, “Business Finance and the São Paulo Bolsa”; and Triner, “Banks and Brazilian Economic Development.” 113. Triner, for example, dismisses the growth of the 1910 –12 period on the Rio exchange as unimportant because the Bolsa’s long-term performance was poor. Her argument for the insignificance of the Bolsa to economic development is based on the declining proportion of firms funded through the sale of equity relative to total economic growth through 1930 (Triner, “Banks and Brazilian Economic Development”). 114. São Paulo had no listings outside of the traditional sectors in 1886, while 25 percent of the companies listed on Rio’s exchange were urban and industrial concerns. 115. Haber, “The Efficiency Consequences of Institutional Change.”

Chapter 5

The Republican Revolution and the Failure of Universal Banking

1. Fohlin, “Universal Banking in Pre-World War I Germany,” and Canals, Universal Banking, both emphasize that universal banks are not required to offer this full complement of services and in fact rarely do. It is the fact that they can choose to offer such a broad variety of services that distinguishes them as universal banks. See also Calomiris, “Universal Banking and the Financing of Industrial Development.” 2. Dye’s research on Cuban sugar production shows just how dramatic the influence of the second industrial revolution was. The scale and scope of the production process, a function of technological and managerial innovation, changed virtually every aspect of sugar cultivation and refining (Dye, Cuban Sugar in the Age of Mass Production).

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3. Fohlin, “Universal Banking in Pre-World War I Germany.” 4. Tilly, “Germany, 1815 –1870”; Tilly, “An Overview on the Role of the Large German Banks.” 5. Fohlin, “The Rise of Interlocking Directorates,” 307–33. 6. Fohlin, “Universal Banking in Pre-World War I Germany,” and Canals, Universal Banking, both review the theoretical advantages and disadvantages of universal banking. In Canals, see especially 102 –10. 7. Tilly, “German Banking, 1850 –1914.” 8. While Fohlin (“Universal Banking in Pre-World War I Germany”) essentially agrees with this assessment, she views it with a fairly skeptical eye. The “orthodox view” of the German universal banks credits them with funding industrialization, while she points out that they were limited in geography and time to some parts of Germany only, and only in the last decades of the century. In other words, industrialization did not wait for the rise of the universal bank. Still, these large banks were intimately tied to the very large industrial concerns that did have huge financial requirements in the last decades of the century. 9. Calomiris, “The Costs of Rejecting Universal Banking.” 10. Ibid.; Canals, Universal Banking; Fohlin, “Universal Banking in PreWorld War I Germany.” 11. Calomiris emphasizes this cost differential in his comparison of German and American banking, “The Costs of Rejecting Universal Banking.” 12. Tilly, “An Overview on the Role of the Large German Banks.” 13. Calomiris, “Universal Banking and the Financing of Industrial Development.” Calomiris compares the cost of underwriting stock and bond issues in Germany, a universal banking regime, with the United States, where unit banking prevailed. The savings come from the flexibility a universal bank has in providing for a client’s financial needs. Fohlin argues that these benefits came with costs, including reduced competition in industry and in banking (Fohlin, “Universal Banking in Pre-World War I Germany”). 14. On the failure of French universal banking, see Gueslin, “Banks and State in France”; Lévy-Leboyer and Lescure, “France”; Gerschenkron, Economic Backwardness in Historical Perspective; Cameron, “France, 1800 –1870”; Crouzet, Capital Formation in the Industrial Revolution; and Fohlen, “France, 1700 –1914.” 15. The Banca Commerciale Italiana and the Credito Italiano were founded by a consortium of German banks and therefore were the beneficiaries of German expertise in the area of universal banking (Fohlin, “Fiduciari and Firm Liquidity Constraints”). 16. Cohen, “Italy, 1861–1914”; Hertner, “Central Banking and Germanstyle Mixed Banking in Italy.” 17. Fohlin, “Fiduciari and Firm Liquidity Constraints.” 18. Cottrell (Industrial Finance) notes that industrialists demanded no such credit, and Collins (Banks and Industrial Finance) argues that there has been no systematic inquiry into whether the assumption that banks failed to promote in-

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dustry is a valid one. Watson (“Banks and Industrial Finance”) investigates the bank-failure hypothesis by examining the case of brewers and agrees with Cottrell that they demanded no long term credit. Newton (“Government, Banks, and Industry”) presents evidence that bankers were, in fact, conservative in their lending. 19. The branch networks were an important feature of British finance because they were effective in mobilizing funds from regions with capital surpluses to invest in regions of capital scarcity, and therefore efficiently utilized depositors’ funds. They were not as a rule, however, engaged in the long-term lending typically associated with structural development (Cottrell, Industrial Finance). 20. Lamoreaux, Insider Lending; Calomiris, “The Costs of Rejecting Universal Banking.” 21. Sylla, “The United States, 1863 –1913.” 22. Calomiris, “The Costs of Rejecting Universal Banking.” 23. Summerhill (“Institutional Determinants of Railroad Subsidy”) demonstrates that costs savings from improved transport networks contributed significantly to what was a very tiny GNP growth rate. The counterfactual absence of those savings would have placed Brazil even further behind the leading nations than it found itself in the late nineteenth century. 24. Leis e Decretos, Law 1237, 24 September 1864. 25. These banks of issue had to deposit the equivalent value of their issue in government bonds with a special government bank, the Caixa de Amortização, effectively placing an upper-limit value of issues equal to 100 percent of their paid-in capital. Alternatively, they were allowed to issue three times the value of their holdings in gold. If, hypothetically, a bank invested all its paid-in capital in gold, it could issue notes up to three times the value of its capital. If a bank chose to issue to the maximum level, it would have to finance any other banking activities through deposits. 26. Leis e Decretos, Decree 3403, 24 November 1888. Article 11 established the minimum size of the banks allowed to issue, depending on their location. Banks in the imperial capital had to have equity of at least five million mil-réis. Banks in the provincial capitals had to be worth at least two million mil-réis. And municipal banks outside of the provincial capitals had to be worth at least one million mil-réis. The mil-réis was worth approximately US$0.50 at this time. 27. Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Number 2140: 1888 –1889. 28. Saes, Crédito e bancos, 95 –98. 29. Leis e Decretos, Decree 165, 17 January 1890. The summary line at the top of this decree identifies it as promoting the organization of banks of issue. It doesn’t identify these banks as universal banks, but includes specific provisions in the decree that clearly intend to form mixed or universal banks. 30. Concessions like these are seen as an important contributing cause to unrest and rebellion at the turn of the twentieth century because they pushed

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the poor squatters off these lands. The connection between land concessions and a religious movement in the early twentieth century is captured in Diacon, Millenarian Vision, Capitalist Reality. 31. Leis e Decretos, Decree 165, 17 January 1890, Article 3. 32. In practice, this bank never made the issue of banknotes its primary business and behaved more like the mixed-mortgage banks, the Banco de Santos and the Banco de Crédito Real. The Banco União de São Paulo’s issue portfolio comprised just 13.7 percent of total assets in 1890 and 10.1 percent of total assets in 1895. The bank’s right to issue notes was withdrawn by the government in 1896, when, in an attempt to curb the excess supply of paper money and regain the value of currency, the rights of issue were concentrated in the Banco da República do Brasil (Leis e Decretos, Law 427, 9 December 1896; see also Andrada, Bancos de emissão no Brasil, 330). 33. Leis e Decretos, Decree 169A, 19 January 1890. 34. This was a balancete, or mini-balance, reflecting November’s closing balance. This document shows that the bank operated in the city of Santos, its president was a gentleman named Ernesto Gomes, and its manager was Julião Caramurú. 35. Under the October revision to the January 1890 business law reform, corporations had to have 30 percent of their capital paid in before commencing operations. The December balance sheet shows that the Banco de Santos was out of compliance with the law, having had slightly less than 20 percent of its capital paid in by November. 36. See Pang, In Pursuit of Honor and Power, on the economic activities of the imperial nobility. 37. Correio Paulistano, 31 March 1886. 38. The sources chronicling Rodovalho’s career are as follows: Companhia Paulista Estrada de Ferro, Relatórios, 28 January 1872, 29 August 1880; Saes, Crédito e bancos, 88, 135; Companhia Mogiana Estrada de Ferro, Relatórios, 28 September 1873, 25 October 1891, 20 May 1894. For the Banco do Brasil: Correio Paulistano, 28 April 1875, and 8 July 1883. For the Banco de Crédito Real: Correio Paulistano, 21 March 1884, and 1 April 1890; Diário Official do Estado de São Paulo, 16 April 1901. For the Companhia Ituana Estrada de Ferro: Relatórios, 4 April 1886, and 27 April 1890. For the Banco Comercial de São Paulo: Correio Paulistano, 12 July 1886, and 18 January 1890. For the Companhia Melhoramentos de São Paulo: Saes, Crédito e bancos, 88. For the Companhia Industrial Rodovalho: Correio Paulistano, 15 March 1891. For the Companhia Cantareira e Esgotos: Correio Paulistano, 12 April 1891. 39. Sertório founded the Companhia de Luz Elétrica de São Paulo in 1889, according to the Diário Popular, 28 February 1889. Saes writes of his connection to the Companhia Carris de Ferro de São Paulo, but gives no dates, in Crédito e bancos, 88. 40. Mello, Metamorfoses da riqueza, 134. In fact, it was the Marquês de Tres

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Rios who, in his capacity as vice-president of the Province of São Paulo, signed the 1881 legislation offering profit guarantees that led directly to the Banco de Crédito Real’s founding the following year. 41. Saes, Crédito e bancos, 136; Companhia Paulista Estrada de Ferro, Relatórios, 30 April 1896, 30 June 1902; Correio Paulistano, 21 April 1903. 42. Companhia Ituana Estrada de Ferro, Relatórios, 10 November 1878, 28 April 1889; Correio Paulistano, 24 January 1890; Saes, Crédito e bancos, 134; Companhia Paulista Estrada de Ferro, Relatórios, 27 February 1881, 30 April 1893, 30 June 1901; and Mello, Metamorfoses da riqueza, 132. 43. These three were Carlos Paes de Barros, João Baptista de Mello e Oliveira, and Alexandre Siciliano (Diário Official do Estado, 13 April 1901; Saes, Crédito e bancos, 135). Suzigan argues in Indústria brasileira that the Companhia Mecânica e Importadora was unequaled in the scope of its machinery importing and constructing activities (237–38). According to Cano, the Companhia Mecânica e Importadora was the fifth largest industrial firm in 1907 (Cano, Raízes da concentração industrial, 80). 44. Mello, Metamorfoses da riqueza, 132. 45. Leis e Decretos, Decree 253, 8 March 1890. The Banco do Brasil and the Banco Nacional do Brasil were granted currency issue capacities of twenty-five million each, and the Banco dos Estados Unidos do Brasil was authorized to issue fifty million mil-réis. 46. Correio Paulistano, 21 February 1890. 47. Leis e Decretos, Decree 351, 19 April 1890. This decree contained the statutes of the newly incorporated Banco União de São Paulo. Articles 8 through 10 refer to the issuance privileges. 48. These notes were “bearer” notes (ao portador), meaning they belonged to whomever held them. This designation, as opposed to “nominative” notes that bore the name of the owning party, meant these notes were freely transferable and therefore able to act just like today’s paper currency. 49. Correio Paulistano, 18 April 1891. 50. Ibid. 51. The money supply, which had grown at a mere 1–2 percent annual rate for the previous twenty years, grew at almost 12 percent per trimester for two years (Pelaez and Suzigan, História monetária, 174). 52. Leff, “A Technique for Estimating Income Trends.” 53. Pelaez and Suzigan, História monetária, 178 –79. Pelaez and Suzigan ultimately place the blame, however, on the imperial government. Imperial policy had so severely restricted the development of the financial system, and demand for capital and credit was so great at the end of the empire, they argue, that the euphoria of the reforms would have been difficult to control by any measure 54. After 1892, all changes in the money supply, including some highly inflationary Treasury issues after 1896, came at the hands of the federal Treasury (Normano, Brazil: A Study of Economic Types, 177– 81).

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55. Mello, O capitalismo tardio, 99 –100. Castro notes that even though external prices fluctuated between an indexed low of 87 and a high of 113, a falling exchange rate from 1889 on guaranteed a steady rise in the internal price of coffee through 1894 (Castro, As empresas estrangeiras no Brasil, 58 – 60). 56. This was worth about US$5 million. 57. The Banco do Comércio e Indústria de São Paulo also called itself an industrial bank, but the only evidence of this is a balance-sheet account titled “Stockholdings in Companies.” This account was worth about one-tenth the value of the Banco União’s industrial portfolio for most of the 1890s. At the apogee of industrial investment, in 1903, the BCISP stockholding account was worth one-quarter of the value of the Banco União’s industrial portfolio. 58. Correio Paulistano, 24 January 1890. The acquisition was announced in the same paper on 16 April 1890. 59. Correio Paulistano, 18 July 1890. 60. Investments in rural properties were contained in the mortgage portfolio of the bank. 61. The accounts included “evaluations” and “explorations.” 62. Lérias, “O Encilhamento e a cidade de São Paulo.” This experience is distinct from that of Rio de Janeiro, where much of the speculative activity centered on manufacturing concerns, principally textiles. 63. Leis e Decretos. The provision requiring government authorization to form and operate was dropped for most joint-stock companies via Law 3150 of 1882. Exceptions included banks of issue, companies operating in the food services, charitable organizations, and foreign corporations. The provision requiring government authorization for mortgage banks was contained in Decree 8821 of that same year. 64. Leis e Decretos, Decree 169A, 19 January 1890. In addition to specific mortgage legislation, mortgage banks were also ruled by the umbrella provisions of the joint-stock company laws, particularly Decree 8821 of 1882 and its Republican reiteration in Decree 164 of 1890. These virtually identical laws simply stated that mortgage banks, like banks of issue, were required to obtain government authorization in order to form and operate. Before 1882, all companies had required government authorization to form and operate. With Decree 8821, which remained essentially unchanged in Decree 164, commercial banks no longer required such authorization unless they were foreignowned banks. (All companies of foreign ownership required government authorization.) Mortgage banks and banks of issue, because of the government’s role in their promotion and operation, did require authorization to form and operate. 65. This discussion of mortgages is drawn from the provisions of Decree 169A. The provision concerning railroads refers to the fact that most branch lines were built to reach coffee plantations (Leis e Decretos, Decree 169A, 19 January 1890).

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66. In the original law, Law 1237 of 1864, the terms of mortgages were set at a minimum of ten years and a maximum of thirty years. 67. The bank was liquidated at the end of 1905. 68. The Banco de Santos disappears from my sample after 1899. My thorough search through contemporary journals turned up no additional records. 69. Leis e Decretos, Decree 169A, 19 January 1890. Article 13, paragraph 1: “Constituída a hipoteca . . . podem sobre ela as sociedades especialmente autorizadas pelo Governo, emitir, com o nome de letras hipotecárias, títulos de dívidas transmissíveis e pagáveis.” These letters were nominative or to the bearer, and transferable via simple endorsement. Article 13, paragraph 11: “Os empréstimos hipotecários são feitos em dinheiro ou em letras hipotecárias.” According to the statutes of at least one mortgage bank, the Banco de Crédito Real, loans were made at some interest rate up to 9 percent, while mortgage-backed notes earned 6 percent (Decree 8647, 19 August 1882). 70. Maturity ranged from 10 to 30 years, depending on the term of the underlying loans. 71. Diário Popular, 26 February 1889. 72. Snowden, “Mortgage Rates and American Capital Market Development.” 73. Snowden concludes that “the resulting mortgage rate differentials were large enough to imply that the pace of development, both on the farm and in the city, may have been retarded in the affected area” (ibid., 690). 74. On French mortgage lending in the nineteenth century, see Hoffman, Postel-Vinay, and Rosenthal, Priceless Markets, chap. 10 and 11. 75. Like the Brazilian banks, the Crédit Foncier raised funds for its mortgage business via bond issues on the stock exchange. Unlike Brazilian mortgage banks, its bonds did not generate much public interest until the state offered de facto government guarantees (ibid., 258 – 67). 76. Because of its inability to compete against notaries for the small- and medium-sized clients, due to notaries’ information advantages in the rural market, the Crédit Foncier concentrated its business on the largest borrowers, whose requirements were beyond the resources of the notaries. Hoffman, Postel-Vinay, and Rosenthal find that the median Crédit Foncier rural loan was “at least thirteen times larger than the median loan in the rural market . . . in 1890” (Hoffman, Postel-Vinay, and Rosenthal, Priceless Markets, 266). 77. While we know how the mortgages were funded, we know less about the destinations of those funds. The statutes of the mixed banks reveal few specifics about their actual mortgage-lending practices but rather simply list the possible business activities in which the banks could engage. These banks all had the right to make two types of loans out of their mortgage portfolios. They could make long-term mortgage loans on rural and urban properties at some interest rate less than 9 percent and for some time period less than fifty years, depending on the bank, the type of loan, and the existence or not of government

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subsidies, which tended to cap interest rates at 6 percent. Additionally, they had the right to make short-term loans to agricultural enterprises, loans which were sob penhor, or “secured by collateral,” as we saw the Banco da Lavoura make back in the 1880s. These loans could be for any term from less than ninety days up to two years and were always backed by a pending harvest or warehoused produce, or by agricultural machinery and animals. 78. Schwartz, Sugar Plantations, 202 –12; Triner, Banking and Economic Development, 135 –38. 79. The financial statements published by these three banks did not elaborate beyond line-item descriptions, and sometimes collapsed several accounts into one, but the occasions when accounts were listed separately provide some insight into their activities. The Banco de Crédito Real, for example, listed five separate categories of loans in its mortgage portfolio through 1892. During the first years as a universal bank, the Banco de Crédito Real applied almost all of its earning assets to long-term mortgage loans and primarily to rural mortgages. Eleven million mil-réis of credit flowed from the Banco de Crédito Real to agricultural mortgages in the first years of the Republic. An additional four million mil-réis in urban mortgages were registered on the 1892 balance sheet. Between these eleven million mil-réis of the Banco de Crédito Real and the more than four million mil-réis in rural loans made by the Banco União de São Paulo, close to sixteen million mil-réis, or four million dollars, were extended in long-term loans to agriculture in 1892 by government-authorized mortgage banks. 80. In 1900: Banco de Crédito Real, 12,616,268 mil-réis; Banco União de São Paulo, 1,152,929 mil-réis; União de São Carlos (1899), 1,074,627 mil-réis; Ribeirão Preto, 100,851 mil-réis. In 1905: Banco de Crédito Real, 6,793,817 mil-réis; Banco União de São Paulo, 213,036 mil-réis. 81. Correio Paulistano, 5 January 1906. The balance sheet from which the 6.8 million contos was drawn was dated 4 December 1905. It was the final balance sheet for the company, which had entered forced liquidation proceedings by order of a judge due to its insolvency. News of the liquidation was reported in O Estado de São Paulo on the same day. Bank property had been seized and a panel of appraisers appointed. 82. O Estado de São Paulo, 5 January 1906; Correio Paulistano, 15 January 1906. 83. “Relatório dos syndicos provisório da liquidação forçada do Banco de Crédito Real de São Paulo,” O Estado de São Paulo, 5 January 1906. 84. The situation was apparently not completely hopeless. An announcement in the Correio Paulistano in January 1908 asked holders of Banco de Crédito Real mortgage-backed notes to send their names, addresses, and the number of letters they held to a Mr. Henry White, presumably for some compensation (Correio Paulistano, 13 February 1908). 85. Triner, Banking and Economic Development, 168. 86. Banespa, which had been taken over by the federal government in 1997,

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was privatized in 2000. An article in the New York Times announced that the Spanish banking house Banco Santander Central Hispano “won the auction for the bank, a state-run enterprise, with a bid of $3.57 billion today. It was the largest amount ever paid for a government bank in South America” (New York Times, 21 November 2000, sec. W, p. 1). 87. The bank listed 6.4 million mil-réis in equity, only 700,000 mil-réis of which was paid in, and 25.4 million mil-réis in bonds (O Estado de São Paulo, 15 January 1910). 88. Discounts varied widely during the war years, dropping to almost negligible amounts. 89. Triner, Banking and Economic Development, 276 –77 n. 45. 90. Ibid., 136. 91. Lower profits can signal success, not failure, when they trend lower over time. High profits signal opportunity and typically attract competitors to a business. Over time, competition among the original highly profitable business and its new competitors will drive the profit margin down. Research on banking in the late twentieth century uses low profits, not high, as the measure of a developed and competitive financial system. Low profits from the beginning, however, usually signal weakness. São Paulo’s universal banks never posted the sorts of returns that attracted competitors (Demirgüç-Kunt and Huizinga, “Financial Structure and Bank Profitability”). 92. The annual reports of several manufacturing firms during this period refer to the economic recession as the source of depressed profits. In addition, the government was hostile to “unhealthy” business and took a sink-or-swim attitude that gave these companies no relief. New consumer taxes imposed to bring in government revenue were absorbed by the manufacturers since customers couldn’t take any price increases. 93. For a full discussion of institutional development and its impediments, see Triner, Banking and Economic Development, chap. 6. 94. The financial pages listed two sets of quotes for stocks and bonds: buy and sell. I collected buy quotes, which indicate a buyer looking for an acquisition. Therefore, I assume that these prices reflect market levels. Sell quotes, which reflected what an owner hoped to get in a trade rather than what a buyer was willing to pay, have the potential to overstate the value of the stock or bond and therefore were not included here. 95. Non-Brazilian coffee production throughout this period averaged between four million and five million bags of coffee. Brazilian production was the only source of growth in world coffee supply. Because of the overproduction provoked by the 1886 –96 planting boom, the unabsorbed stocks of coffee rose from 2 –3 million bags in the early 1890s to 6 –11 million bags at the turn of the century. International prices reflected this, having fallen from 87 francs per bag in 1895, to 58 francs in 1896, to 34 francs by 1902 (Holloway, The Brazilian Coffee Valorization of 1906, 88 – 89).

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96. Domestic industry had been illegal throughout the colonial period in order to keep Brazil from straying from its principal objective: the production of cash crops for export to Portugal. When the Crown was forced to flee from Napoleon to Brazil in 1808, it chose to open the Brazilian ports to international trade in order to reproduce for its own welfare the consumption conditions of Portugal. Part of the economic reforms was to legalize domestic Brazilian industry. 97. Foreign-trade taxes, including import duties, export taxes, and marine duties, contributed between 68 percent and 81 percent of total central government revenues between 1850 and 1885 (Leff, Underdevelopment and Development, 2:84). 98. Leopoldi, “Industrial Associations,” 8 –12. Most of the manufacturing establishments were involved in either food and drink and agricultural products processing or in hat making. Only 3 of 1,910 factories registered in the country in 1858 produced textiles. 99. This illustration is drawn from Leopoldi, “Industrial Associations,” 79 – 81. 100. Topik, Trade and Gunboats. 101. Quote attributed to Jorge Street, a São Paulo industrialist, in Leopoldi, “Industrial Associations,” 82. 102. Several banks kept their doors open as late as 1904, but the general economic crisis of the period outlasted them and they eventually failed. One bank, the Banco União de São Paulo, did not fail but chose to go out of the banking business and dedicate itself to industrial pursuits. In spite of the unfavorable environment, however, one major new bank was founded right in the middle of the monetary turmoil. This was the Banco Commerciale Italiano de São Paulo, which was one of many urban enterprises run by the legendary Italian immigrant businessman Francisco Matarazzo. Interestingly, Matarazzo spent the early twentieth century building industrial ventures, yet his own bank displayed no signs of long-term lending to industry. 103. As a condition of their charter, mortgage banks were restricted to a maximum interest rate of 9 percent on mortgage loans (Leis e Decretos, Decree 169A, 19 January 1890). Prices rose 152 percent from 1890 to 1900, when they began to decline. In 1905, prices were still 43 percent higher than in 1890. In the six years when inflation outstripped the interest earned on mortgages, it ranged between 9 percent and 50 percent per year. In the remaining four years it ranged between 0 percent and 4.2 percent. 104. Fohlin, “Universal Banking in Pre-World War I Germany.”

Chapter 6

Commercial Banking and the Business of Development

1. The English Bank of Rio de Janeiro, whose branches in Santos and São Paulo were two of the three foreign banks in operation prior to 1890, was sold to new investors in 1891 and continued to operate in São Paulo under its new

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name, the British Bank of South America, Ltd. ( Joslin, A Century of Banking in Latin America, 169 –70). 2. Cano, Raízes da concentração industrial. 3. Castro notes that even though external prices fluctuated between an indexed low of 87 and a high of 113, a falling exchange rate from 1889 on guaranteed a steady rise in the internal price of coffee through 1894 (Castro, As empresas estrangeiras, 58 – 60). 4. Diário Popular, 6 November 1889. 5. Correio Paulistano, 1 February 1891. 6. The Casa Bancária, which had operated as a limited partnership during its first incarnation from 1886 to 1889, announced its liquidation early in 1890 and directed its shareholders and customers to the Banco do Comércio e Indústria. The directors and managers remained the same (O Estado de São Paulo, 6 January 1890). 7. The Banco Comercial’s shareholders were given shares in the Banco de Crédito Real in a one-for-one stock swap (Correio Paulistano, 2 February 1890). 8. Bankers in the U.S. Northeast were similarly prudent during periods of rapid business expansion. Their inability to assess the creditworthiness of new clients reinforced the tendency to lend short term (Lamoreaux, “Information Problems and Banks’ Specialization”). 9. Correio Paulistano, 10 July 1890. 10. Correio Paulistano, 11 November 1890. 11. Saes, Crédito e bancos, 99 n. 6. 12. Correio Paulistano, 9 August 1890. 13. Correio Paulistano, 1 June 1890, 10 June 1890. Dean demonstrates the importance of the Italian immigrant community to early industrialization in São Paulo (Dean, The Industrialization of São Paulo). 14. Correio Paulistano, 8 August 1890, 8 November 1890. 15. Correio Paulistano, 8 November 1890. 16. Correio Paulistano, 18 January 1891. 17. Banks had, from the 1870s and 1880s, established personal and professional links to the non-bank businesses that made up the São Paulo business community. They did this principally through interlocking directorates and shared investors. 18. Companies left little direct documentation about finance, so what we know is gleaned from financial statements and rare annual reports published in the newspaper, monographs on São Paulo economic development. While this approach only provides information on the world of publicly traded companies, which were a distinct minority in São Paulo, evidence presented in Chapter 4 demonstrates that these tended to be among the largest companies operating in São Paulo. The large companies typically had capital requirements that outstripped the resources of kin-group or community finance. This approach, then, captures the companies most reliant on institutional intermediaries for working

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capital and investment finance. The types of documents mined for shareholders and directors include published financial statements, stock price quotes, annual reports, and advertisements from major newspapers from 1856 to 1920. The principal sources were the major newspapers, including A Província de São Paulo, which was renamed O Estado de São Paulo with the declaration of the Republic; Correio Paulistano; Diário Popular; and Diário Official do Estado de São Paulo. In addition, company information was gleaned from published monographs on São Paulo development, including those of Dean, Cano, Z. M. Mello, Saes, and Suzigan. Additional sources for specific sectors were as follows. On banks: Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Numbers 2138: 1865 –1884, 2139: 1885 –1887, 2140: 1888 –1889, 2141: 1890 – 1891. On public utilities, sources included: Arquivo do Estado de São Paulo, Seção de Manuscritos, “Obras Públicas,” Order Number 5208; Patrimônio Histórico da Eletropaulo, São Paulo, Manuscritos, “Companhia Água e Luz”: 1890 –1901, and “Companhia Viação Paulista”: 1890 –1900; and Relatórios for the Viação Paulista, 1894 and 1897. On railroads, I consulted the Relatórios for the Companhia Paulista, Companhia Mogiana, Companhia Ituana, Companhia Sorocabana, and the Companhia União Sorocabana-Ituana. Any reference to a director or shareholder went into a database, where it was sorted by company and by individual. 19. I identified a total of 519 individual shareholders and directors of São Paulo companies in the period 1856 –1905. Of these, 167, or 32 percent, were linked to two or more companies. Of the 167 with multiple links, 103, or 62 percent, were linked to a bank. My database shows that the joint-stock companies were overwhelmingly owned and run by São Paulo residents. The one important exception that appears here is Francisco de Paula Mayrink, a wealthy and well-connected entrepreneur from Rio de Janeiro who had business interests throughout Brazil and who became an important force in the São Paulo business world, particularly in rail and urban transportation. On Mayrink, see Topik, “Francisco de Paula Mayrink.” 20. Of the 167 directors and shareholders with links to at least two companies in the period 1856 –1905, 89 individuals (53 percent) had links to two companies; 30 individuals (18 percent) had links to three companies; 15 individuals (9 percent) had links to four companies, 13 individuals (8 percent) had links to five companies; and 20 individuals (12 percent) had links to more than five companies. 21. While this is true of all four railroads (Paulista, Mogiana, Ituana, and Sorocabana), one of the four had no other financial or investment ties to São Paulo. The Sorocabana railway drew almost all of its investors from Rio de Janeiro, not São Paulo. Its annual reports demonstrate that the banking matters of the Sorocabana were handled almost exclusively by Rio de Janeiro-based banks. The case is striking for being the only one. All other major companies in São Paulo had ties directly to the São Paulo banking community (Companhia

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Sorocabana Estrada de Ferro, Relatórios, 2 January 1872, 2 July 1872, 17 March 1878). 22. The three bank directors who served on the board of the Paulista Railroad Company were Antônio da Silva Prado, Martinho da Silva Prado, and Francisco Antônio de Souza Queiroz. The bank manager was Fidêncio N. Prates. 23. These members represented five banks: the Banco da Província, the Banco dos Lavradores, the Banco Construtor e Agrícola (formerly the Banco do Brasil), the Casa Bancária da Província (later the Banco do Comércio e Indústria), and the Banco de São Paulo. 24. These banks included the Casa Bancária da Província (later the Banco do Comércio e Indústria), the São Paulo affiliate of the Banco do Brasil (later the Banco Construtor e Agrícola), the Banco de São Paulo, the Banco União de São Paulo, the Banco dos Operários, and the Banco Comercial de São Paulo (later absorbed by the Banco de Crédito Real). 25. The 1891 president of the company, Antônio Proost Rodovalho, was also a director of the Banco de Crédito Real as well as a director of the Banco de São Paulo. 26. The company also registered a credit account (indicating deposits with a bank) with the Banco Popular. This account showed up on just one of five consecutive financial statements. 27. These included the Banco Comercial de São Paulo, the Banco de Crédito Real, the Banco de São Paulo, and the Banco Popular. In 1890 the São Paulo Tramway Company was bought by a syndicate headed by Francisco Mayrink, who two years later combined this company with almost every other tram company operating in São Paulo to form a monopoly venture, the Companhia Viação Paulista, or the Paulista Transit Company. The Banco Provincial de São Paulo acted as intermediary in the transaction. This bank was the middle step in the transformation of the Banco Popular into the Banco dos Lavradores. When the Popular folded in 1889, it directed its shareholders to the Banco Provincial. Later, the Provincial and Lavradores banks were merged and operated thereafter as the Banco dos Lavradores. On the sale of the São Paulo Tram Company, see Correio Paulistano, 26 April 1890. Topik’s biography of Francisco de Paula Mayrink offers a detailed view into the world of these prominent “new economy” entrepreneurs. Topik makes the often overlooked point that not all wealth and prominence derived from agriculture. Mayrink offers the perfect example of an urban entrepreneur who was an important part of Brazil’s economic elite (Topik, “Francisco de Paula Mayrink”). 28. The tram company’s president, Francisco A. Dutra Rodrigues, was also president of the Banco de Crédito Real, while another director, José Duarte Rodrigues, managed the Banco de Crédito Real and served as director of the Banco Comercial de São Paulo. The Banco de Crédito Real acquired the Banco Comercial in 1890.

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29. The Banco Popular was absorbed by the Banco Provincial in 1889, which was then fused with the Banco dos Lavradores in early 1891 (Diário Popular, 26 October 1889, 6 November 1889, 9 February 1891). For Dias’s ties: Companhia Paulista Estrada de Ferro, Relatórios, 30 September 1888, 30 June 1897; Companhia Mogiana Estrada de Ferro, Relatórios, 25 October 1891, 23 June 1899; Mello, Metamorfoses da riqueza, 142; Diário Official do Estado de São Paulo, 31 January 1892, 9 March 1900, 18 April 1903; and Suzigan, Indústria brasileira, 138, 236 –37. 30. Correio Paulistano, 3 March 1895; Diário Official do Estado de São Paulo, 31 January 1892, 9 March 1900, 21 March 1903; Companhia Paulista Estrada de Ferro, Relatórios, 27 October 1889, 30 June 1897. 31. Diário Official do Estado de São Paulo, 1 March 1903, 21 March 1903; Saes, Crédito e bancos, 135. 32. Diário Official do Estado de São Paulo, 4 February 1902. 33. Other directors of the Banco do Comércio e Indústria de São Paulo and the Banco de São Paulo were connected to the Companhia Central Paulista as well. At the Banco do Comércio e Indústria de São Paulo: Antônio da Silva Prado and Joao Álvares Rubião Jr. At the Banco de São Paulo: the Barão de Tatuí. 34. The Oeste Agrícola was tied to the Comércio e Indústria via director Adolpho Augusto Pinto and to the Banco de São Paulo via directors Manoel Joaquim Albuquerque Lins and Bento José de Carvalho. The Industrial Rodovalho was tied to the Comércio e Indústria via director J. Queiroz Lacerda and to both banks via their shared director Antônio Paes de Barros. The Mecânica e Importadora was tied to the Comércio e Indústria via director Francisco Antônio de Souza Queiroz, and to the Banco de São Paulo via directors Manoel Joaquim Albuquerque Lins e João Baptista de Mello e Oliveira. 35. The public utilities were Luz Elétrica de São Paulo, Água e Luz do Estado de São Paulo, and the Viação Paulista. The match company was the Phósphoros de Segurança. 36. Saes, Crédito e bancos, 78; miscellaneous company documents from n. 18 above. The single exception was the very short-lived Banco de Campinas. The major banks with agencies in Campinas included the Banco do Brasil, Banco Mercantil de Santos, and Banco Comercial. 37. The sixth bank, the Banco Popular de Guaratinguetá, was founded in the city of Guaratinguetá, which is located in the Paraíba Valley. 38. Camargo, Crescimento da população no Estado de São Paulo, 1:32 –39. 39. It was in the hinterland capitals that much new bank formation took place after 1895. The Banco da Indústria e Comércio de Piracicaba appears in 1899 data reported by Saes, the Banco Regional de Mocóca appears in 1900 data, the Banco Ítalo-Popular appears in the 1901 data, and the Banco Campineiro appears in 1902 data. All four were set in hinterland capitals. There was no new domestic bank formation in the capital city in this era except for the Banco Commerciale Italiano, founded in 1900.

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40. Commercial banks in 1880 include Banco do Brasil, Banco Mercantil de Santos, and the English Bank of Rio at Santos. In 1890 they include the Banco Mercantil de Santos, Banco Construtor e Agrícola, Banco do Comércio e Indústria, Banco de São Paulo, and the commercial portfolios of the three mixed banks, the Banco de Crédito Real, Banco de Santos, and Banco União de São Paulo. In 1895 commercial banks are Banco Construtor e Agrícola, Banco do Comércio e Indústria, Banco dos Lavradores, Banco Mercantil de Santos, Banco de São Paulo, Banco de Araraquara, Banco de Piracicaba, Banco de Ribeirão Preto, Banco União de São Carlos, Brasilianische Bank für Deutschland, British Bank of South America, London & Brazilian Bank, and the commercial portfolios of the Banco de Crédito Real, Banco de Santos, and Banco União de São Paulo. In 1900 they include the Banco Commerciale Italiano di São Paulo, Banco do Comércio e Indústria, Banco de Ribeirão Preto, Banco União de São Carlos, Brasilianische Bank für Deutschland, British Bank of South America, Banque Française du Brésil, London and Brazilian Bank, and the commercial portfolios of the Banco de Crédito Real and the Banco União de São Paulo. In 1905 they include Banco Commerciale Italiano di São Paulo, Banco do Comércio e Indústria, Banco de São Paulo, Brasilianische Bank für Deutschland, and the London and Brazilian Bank. 41. In 1901, the combined stockholdings of banks reached 5 percent of total shares outstanding, compared to less than 1 percent in earlier years. 42. Banks owning shared in the Mogiana Railroad Company during the 1890s and early 1900s were the Banco dos Lavradores, Banco da Lavoura, Banco do Comércio e Indústria, Brasilianische Bank für Deutschland, and the London and Brazilian Bank. Their combined investment in the Mogiana ranged from 0.7 percent to 1.2 percent of total shares outstanding. 43. Correio Paulistano, 18 January 1891. 44. Correio Paulistano, 11 November 1890. 45. Suzigan, Indústria brasileira, 144. 46. This bank’s intention to provide such loans is spelled out in its statement of objectives, published in the Correio Paulistano on 10 July 1890. In addition to traditional commercial banking functions, the Banco Construtor e Agrícola sought to act as contractor for the building of railroads, factories, worker housing, and agricultural immigrant colonies. It is salient that this bank, which also invested significantly in stocks, drew the single greatest proportion of its funding form equity capital of any city bank. 47. The 1907 industrial census found that two-thirds of all industrial investment declared in São Paulo in 1907 took place after 1890 (Cano, Raízes da concentração industrial, 142). 48. The basic ratio for commercial banks is Advances and Discounts to Deposits because that expression captures the relationship between the most common source of bank funds (deposits) and the most common use of funds (shortterm credit instruments). We can think of this figure as the percentage of deposits

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lent out in short-term loans. A second set of ratios, calculated to express the balance between these uses of funds and all the sources to pay for them, completes the picture of bank liquidity in nineteenth-century São Paulo. Banks received over 70 percent of their funding from deposits during the nineteenth century, but domestic São Paulo banks did turn to shareholders for equity capital in times of expansion when deposits could not be raised fast enough to fund their growth. This was true when banks were new to the São Paulo economy in the 1870s, and again when the sector underwent rapid expansion in the early 1890s. Because of the occasional highlighted importance of equity capital as a source of bank funds, the ratio of all uses to all sources best complements the deposit-based ratios. 49. A ratio above 1 was not impossible. Banks that were a part of a branch network might receive transfers from the network. Branch banking allows funds from regions of slower growth or lower profitability to be applied in areas of faster growth or greater profitability. The other possibility was that a unit bank, unable to raise funds locally, would go to another market to rediscount some of the paper it held, in effect going into debt in order to accommodate its clients. 50. Cottrell, Industrial Finance, 204. 51. Joslin, A Century of Banking in Latin America, 162 – 67. 52. See Triner, Banking and Economic Development, on the bank panic in Rio de Janeiro. 53. Joslin, A Century of Banking in Latin America. 54. These findings support the literature that demonstrates the value of branch banking to the stability of the banking sector. Branching has been shown to provide banks with flexibility to balance risktaking in one market with caution in another. British banking moved toward extensive branching over the course of the nineteenth century, providing Britain with a stable banking system. The benefits of this system were twofold. First, branch networks allowed banks to redistribute funds from regions of slow growth to regions of high growth (Cottrell, Industrial Finance). Second, the stability of the branch networks shielded British industry from recurrent bank crises of the type suffered in the United States because of its unit banks (Collins, Banks and Industrial Finance). White cites an inverse relationship between branching and bank failures in the U.S. banking industry in the 1920s. The beneficial effects of branching on bank system stability are further indicated by Canada’s experience, in which its branch-banking system produced a far lower incidence of bank failures than the U.S. unit-banking system (White, The Regulation and Reform of the American Banking System). The comparative experience of foreign and domestic banks in São Paulo certainly supports this thesis. 55. Only the London and Brazilian Bank, which had long been the most consistently conservative bank in its lending-to-deposit ratio, did not experience illiquidity. 56. Nominal amounts and market shares are from Saes and Szmrecsányi, “El papel de los bancos extranjeros.”

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57. Joslin, A Century of Banking in Latin America, 165 – 66. 58. Saes and Szmrecsányi, “El papel de los bancos extranjeros,” 237–38; Saes, Crédito e bancos, 216. Foreign banks attracted about 39 percent of deposits and made about 42 percent of loans in 1906. 59. Saes and Szmrecsányi, “El papel de los bancos extranjeros,” 238. As a percentage of all deposits and loans, including those of foreign banks, the Banco do Comércio e Indústria de São Paulo took in 13.5 percent of total deposits, the second highest percentage of any bank, and made 14.9 percent of all loans, the highest of any bank. 60. This credit included both long-term and short-term loans, but the bank shifted from predominantly long-term to predominantly short-term lending after 1917 (see Chapter 5). 61. Zucker, “Production of Trust.” On trust and economic exchange, see also the collected essays in Cook, Trust in Society, and Rauch and Cassella, Networks and Markets. 62. For a detailed analysis of the transformation of personal to institutional ties between bank and non-bank companies in São Paulo from the 1880s to 1920, see Hanley, “Is It Who You Know?” 63. Ibid., 216 –20. 64. If we include links between two banks with the same-sector group, this percentage rises to 39 percent, or the same as between a bank and nonbank firm. 65. Triner, “Banks and Brazilian Economic Development,” chap. 3.

Appendix 1. All publicly held banks were required by law to file monthly financial statements with the provincial government. The Imperial Section of the São Paulo State Archives maintained these records from 1865 to 1889. Because the manuscript section of the archives is limited to documents from the Imperial period, which ended with the declaration of the Republic in 1889, financial statements for the 1890 –1920 period were culled from three São Paulo newspapers. These are the Correio Paulistano, the Diário Popular, and O Estado de São Paulo. 2. The term “exchange” is used rather than “stock market” because the São Paulo Exchange, known as the Bolsa de São Paulo, traded stocks, government bonds, mortgage-backed paper, and letters of credit. 3. The Retrospecto Commercial, a year-end publication of the Jornal do Comércio of Rio de Janeiro, published the monthly selling prices on a variety of government bonds. São Paulo newspapers, principally the Correio Paulistano, printed advertisements by the banks listing the interest rates paid on deposits of various types and terms, rates which were honored until a revision was printed or declared. The newspapers also published the dividends declared by banks and other companies, such as railroads and public utilities, either as an amount per share or as a rate on paid-in capital. Finally, newspapers printed announcements

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by brokerage firms for the purchase or sale of different stocks at certain prices. Later, with the organization of the formal stock market after 1891, the Correio Paulistano and O Estado de São Paulo published daily or weekly price quotes of instruments offered on the São Paulo exchange and prices and volumes of actual transactions that took place. 4. I gratefully acknowledge the generosity of Professor Flávio Saes of the Faculdade de Economia e Administração, Universidade de São Paulo. He provided me with many of the financial statements employed in this study. 5. One mil-réis was worth between US$0.35 and US$0.50. Ninety million mil-réis were worth roughly US$30 to US$45 million. Asset figures are expressed here in nominal terms and are taken from published balance sheets. 6. The absence of information on these private banking houses apparently bothered the provincial government. In 1874 the provincial government requested of the private banking houses that they submit monthly financial statements. Each filed a letter respectfully declining to comply, stating that since they were not publicly held, and therefore not chartered by the government, they were not required to divulge any financial information (Arquivo do Estado de São Paulo, Seção de Manuscritos, “Bancos,” Order Number 2138: 1865 –1884, folder 1874). 7. In the 1890s, only two private banking houses operated, compared to at least twenty-eight publicly held Brazilian banks. I found no evidence of any private banks after the turn of the twentieth century. 8. I left my profitability figures in their semester form because banks did not reliably publish data for every semester, and several banks experienced changes in earnings from semester to semester that were large enough to discourage any assumptions about dividend payments over time. 9. The fourth new commercial bank, the Banco de São Paulo, was founded in late 1889 and had not yet generated enough financial data to calculate returns. 10. I define earning assets to be all asset accounts representing investments on which banks earn interest. These include short- and long-term loans, discounted bills, stocks, and bonds. 11. This bank was acquired by the State of São Paulo in 1926 to become the state bank. It is known today as the Banco do Estado de São Paulo, or Banespa. Because of this, some historians consider it a domestic bank from the beginning, while others consider it a foreign bank. Saes (Crédito e bancos) and Triner (Banking and Economic Development) treat it as a domestic bank from its founding. Because of its foreign ownership in this period, I consider it a foreign bank. 12. Stock trading occurred regularly after 1886, through an informal association of brokers, and on the new São Paulo stock and bond exchange from 1890 to 1891. The first exchange failed in 1891 and didn’t reorganize until 1895. Although there is some evidence that trades took place between 1892 and 1894, no prices were published. Price quotes appear regularly again after 1895. 13. The annual reports of several manufacturing firms during this period re-

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fer to the economic recession as the source of depressed profits. In addition, the government was hostile to “unhealthy” business and took a sink-or-swim attitude that gave these companies no relief. New consumer taxes imposed to bring in government revenue were absorbed by the manufacturers since customers couldn’t take any price increases. 14. Because banks always paid dividends, losses reflect a decline in the nominal market price of the stock. 15. I calculated returns on four government bonds. All four bonds were traded regularly. 16. It should not be surprising that the three banks engaged in long-term lending were responsible for a combined nine of those twenty losses.

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index

agricultural credit in São Paulo: availability of, 41, 52, 123, 169; Banco de Crédito Real and, 54, 126, 138, 140; cost, 43; government subsidies and guarantees, 53, 122, 124; interest rates, 41, 53, 125; profits and, 198; regulations regarding, 124 –25; ties to other companies, 162; uncertainty and, 44, 148, 198 Amaral, José Estanislau do, 162 Argentine Bolsa, 18 Associação Comercial, 128 Banco Comercial de São Paulo: acquired by Banco de Crédito Real, 126, 158; founding date, 47; interlocking directorates, 128, 162 – 63; investment in company stocks, 52; investment in mortgage-backed notes, 52 Banco Comercial do Estado de São Paulo: branch banking, 181; direct investment in company stocks, 167; formed, 181; return on equity, 146, 201; short-term credit, 182 Banco Comercial do Rio de Janeiro, 30 Banco Commerciale Italiano di São Paulo: branch banking, 181; direct investment in company stocks, 167; founded, 167 Banco Construtor e Agrícola: acquired Banco do Brasil (São Paulo affiliate), 158; failed, 200; founded, 87; hipotecas, 168; lines of business and clientele, 159; mortgage-backed loans, 171 Banco da Lavoura: agricultural credit, 52; founded, 47; investment in company stocks, 52 Banco de Araraquara, 165 Banco de Crédito Hypotecário e Agrícola do Estado de São Paulo: capitalization,

142; cap on rural lending, 143; credit extended, 142; founded, 141; nationalized as Banco do Estado de São Paulo (Banespa), 141; profitability, 145 – 46, 201 Banco de Crédito Real: 1890 capitalization, 126 –27; agricultural credit, 53 – 54; acquisition of Banco Comercial de São Paulo, 126, 158; commercial portfolio, 132 –33; founded, 47; grandfathered in as universal bank, 126; links to São Paulo businesses, 128 –29, 162 – 63; liquidation, 140, 151; mortgagebacked notes, 137; mortgage lending as cause of its failure, 140 – 41; mortgage portfolio, 136, 140; new stock issues, 75; and profit guarantees, 53, 121; return on equity, 145, 198 –200; returns to shareholders, 146, 202; shares outstanding, 75 Banco de Piracicaba, 168 Banco de Ribeirão Preto, 164 Banco de Santos: 1890 capitalization, 125 –26; chartered, 125; commercial portfolio, 132 –33; exit, 151, 200; industrial/construction portfolio, 133; links to São Paulo businesses, 128 –29; mortgage portfolio, 136; return on equity, 145, 198 –99; Banco de São Paulo: branch banking, 181; direct investment in company stocks, 167; return on equity, 201; return to shareholders, 202 –3; ties to other companies, 162 – 63 Banco do Brasil (Rio), banknote acceptance in provinces, 37 Banco do Brasil (São Paulo affiliate): acquired by Banco Construtor e Agrícola, 158; founded, 34 –35; early credit creation, 38; as early joint-stock

279

280 Banco do Brasil (continued ) company, 71–72; interlocking directorates, 128; investment in company stocks, 52, 162; Prado clan ownership stake in, 38 –39; relationship to Banco do Brasil (Rio), 37–39; return on equity, 198; shareholders in, 50; ties to Paulista Railroad, 162 Banco do Comércio e Indústria de São Paulo: branch banking, 181; direct investment in company stocks, 167; dividends, 201; post-panic market share, 180 – 81; Prado clan ties, 95; risk premium, 203; successor to Casa Bancária da Província de São Paulo, 158; survival, 180; ties to other companies, 162 – 63 Banco do Estado de São Paulo (Banespa). See Banco de Crédito Hypotecário e Agrícola do Estado de São Paulo Banco dos Lavradores: acquisition of Banco Provincial de São Paulo, 158; direct investment in company stocks, 167; failure, 200; ties to other companies, 162 – 63 Banco dos Operários, 159 Banco Francês, direct investment in company stocks, 167. See also Banque Française du Brésil Banco Gavião Ribeiro e Gavião, 39, 47 Banco Hollandez da America do Sul, 180 Banco Industrial Amparense, 159, 167 Banco Ítalo-Brasileiro, 95, 159 – 60 Banco Mauá, 73 Banco Melhoramentos de São Paulo, 159, 167 Banco Melhoramentos do Jaú, 165 Banco Mercantil de Santos: direct investment in company stocks, 167; as early joint-stock company, 72; failure, 174, 200; founded, 40; investment in company stocks, 52; market share, 48; new stock issues, 74; return on equity, 198; shares outstanding, 74 Banco Popular: founding date, 47; investment in company stocks, 52, 167; reorganized as Banco Provincial de São Paulo, 157; ties to other companies, 162 Banco Provincial de São Paulo: merged into Banco dos Lavradores, 157–58

Index bancos hipotecários, defined, 41. See also mortgage banking Banco União de São Carlos, 165, 168, 200 Banco União de São Paulo: 1890 capitalization, 126; chartered, 125 –26; commercial portfolio, 131, 133; exit from banking, 151, 174; founded, 87; founders, 130; industrial/construction portfolio, 133 –35; interlocking directorates, 128 –29; links to São Paulo businesses, 95, 128 –29; mortgage portfolio, 136, 138, 140; return on equity, 145, 199; returns to shareholders, 147, 202 –3; stock price, 203; right of issue, 130 –31 banking: British banks, 15; commercial lending practices, 15; early Brazilian institutions, 28 –29; early São Paulo institutions, 35 –36; and economic development, 13; equity capital and shares outstanding, 74; expansion in the 1880s, 47; formal institutions, 35; German banks, 15; institutional evolution, 50; mortgage lending practices, 15; in nineteenth-century Mexico, 18; private banking houses, 29; reputation and formal banking, 44; universal bank lending practices, 15. See also commercial banks in São Paulo; private banking houses in São Paulo; regional commercial banks; universal banks in São Paulo banking and industrialization in Europe and the United States, 14, 18, 119 –20 banknotes as currency, 30, 32, 38, 122 Bank of England, 61 bank panic of 1900: branch networks and survival during, 175; branch versus unit banking, 175 –77; consolidation of bank sector after, 178, 180 –91; credit availability after, 181– 82; foreign banks’ experience during, 175 –77; and impersonal financial intermediaries, 182 – 85; liquidity and, 170, 172, 174; market share and, 154, 174, 178 – 80; in Rio de Janeiro, 151, 174; São Paulo bank failures, 151, 174; unit banking and failure during, 175 bank regulation: 1864 mortgage bank law, 41, 120 –21, 135; 1888 bank law

Index 122 –23, 135; 1890 reforms, 123 –24; Commercial Code, 31–32, 49 bankruptcy: of banks, 141, 190 –191; of companies, 111, 158; investor claims, 59, 137; procedures for, 31 banks of issue, 30, 32, 121–22 Banque Française du Brésil: access to home office funds, 177; cash balance, 176; contraction, 176; failure, 175, 177; liquidity ratio, 175 Barão de Ataliba, 162 – 63 Barbosa, Rui, 86 Barros, Antônio Paes de (Barão de Piracicaba), 128 –29, 162 – 63 bills of exchange, 31–32, 37 Birchal, Sérgio, 62 branch banking: in Britain and the United States, 119 –20; prohibition and bank failure in the United States, 16; and risk diversification, 16; and survival in 1900 bank panic, 175 –77; versus unit banks, 16, 175 Brasilianische Bank für Deutschland: access to home office funds, 176 –77; cash balance, 176; direct investment in company stocks, 167; founded, 47; survival of bank panic, 180 British Bank of South America Ltd.: access to home office funds, 176; direct investment in company stocks, 167; survival of bank panic, 180 British East India Company, 61 brokers: 1861 monopoly decree, 70; commission rates, 73; expansion, 73; functions, 59 – 60; regulation, 63, 68 –71; services in São Paulo, 53 –54, 72 –73 Brokers’ Council ( Junta de Corretores), 69, 71 Business Council: Rio de Janeiro, 69; São Paulo, 66 Calomiris, Charles, 119 –20 Campos Salles administration, 91, 191 Cano, Wilson, 19, 103 – 4 capital: dowry as business capital in colonial Mexico, 57; industrial capital in England, 57–58; industrial capital in follower countries, 13, 58; requirements of the Industrial Revolution, 57–58, 116 –17; requirements of railroads and public utilities, 20; require-

281 ments of the second industrial revolution, 61, 116 –18, 124 capitalists in São Paulo, 35, 45 Casa Bancária da Província de São Paulo: early private banking house, 47; incorporated as Banco do Comércio e Indústria de São Paulo, 158; ties to other companies, 162 Casa Bancária Souza Queiroz e Vergueiro, 39 Casa Bancária Teodoro Reichert, 39, 47 cash-to-deposit ratio, 177–78 Catholic Church as financial intermediary, 8 –9 City of Santos Improvements Co. Ltd., 159 – 67 closely held companies, 75 coffee trade: boom, 2 – 4; crisis of overproduction, 91, 99, 148 – 49; demand for infrastructure and services, 45; expansion, 34, 42, 45, 101, 165; exports, 26, 45, 149; and industrialization, 4 –5; information problems, 43; linkages, 3 – 5; origins, 2; prices, 43, 91, 149; production, 26, 42, 91, 101, 149; and rise of formal banking, 45; São Paulo share of total production, 45; significance to economy, 40; uncertainty, 40, 42; valorization program, 99, 109 comissário: defined, 25; and informal credit, 28; planter–comissário financial relationship, 37, 43 commercial banks in São Paulo: advantages over long-term lending, 153 –54; as branch banks, 181; direct investment in non-bank companies, 167; early banks, 38 – 40; failures in 1900 bank panic, 174 –75; hinterland banks, 164 – 69; hipotecas, 167– 68; links to nonbank companies, 160 – 64; liquidity ratios of, 171–73; non-traditional clientele, 158 – 60; non-traditional credit, 165 – 68; origins, 21–22, 33; pace of expansion, 47– 48, 155 –57; post-1900 dominance of short-term credit, 181; reorganization and consolidation, 157–58, 180 – 81; services, 36 –37, 50 –52; as unit banks, 175 Commercial Code of 1850, 30, 49, 63 Companhia Alimentícia de São Paulo e Santos, 95, 160, 167 Companhia Antárctica, 94, 95

282 Companhia Cantareira e Esgotos: government bailout, 77; interlocking directorates, 128; ties to other companies, 162 Companhia Carris de Ferro de São Paulo: as early joint-stock company, 72; government monopoly, 77; interlocking directorates, 128, 162 – 63 Companhia Carris de Ferro de São Paulo a Santo Amaro, interlocking directorates, 128, 163 Companhia Central Paulista, 95, 128, 163 Companhia Cortume Água Branca, 163 Companhia de Gaz, 77 Companhia de Tecidos Anhaia Fabril, 128 –29 Companhia Industrial de São Paulo, 163, 167 Companhia Industrial Rodovalho, 128, 163, 167 Companhia Lupton, 163 Companhia Mac Hardy, 163, 167 Companhia Manufatora de Chapéus, 95 Companhia Mecânica e Importadora, 95, 128, 163, 167 Companhia Melhoramentos de São Paulo (paper), 128 Companhia Melhoramentos de São Paulo (real estate), 134 Companhia Oeste Agrícola, 163 Companhia Stupakoff, 94 Companhia Tapeçaria e Móveis Santa Maria, 95 Companhia Telefônica de São Paulo, 128, 162 company law: 1849 joint-stock law, 63 – 65; 1859 law, 65; 1860 Law of Impediments, 66; 1882 reforms, 66; British law, 67– 68; capital requirements for operation and stock trading, 65 – 66, 72; charter requirement and government oversight, 32, 65 – 66; Commercial Code, 30, 49, 63; imperial era, 86; January 1890 reforms, 86 – 88, 125, 129, 132, 153 –54; limited liability, 86, 154; October 1890 counterreform, 88 – 89; unlimited liability (1882 law), 66 – 67 consumption taxes, 92. See also stamp taxes Convênio de Taubaté (Taubaté Conference), 99 –100 Cottrell, Philip, 170

Index credit: in colonial Brazil, 10; in colonial Latin America, 9 –11; demand for among late industrializers, 13; in early modern Europe, 8 –9; secured lines of credit, 36 –37, 50 –51; short-term credit and São Paulo development, 37, 40, 181– 82; strains of growth on, 28; uncertainty and shortage of long-term credit in São Paulo, 40 – 41, 147–51 Crédit Foncier, 14, 138, 141 Crédit Mobilier, 14 Dean, Warren, 4, 19 debentures, 80, 96 –98 debt/equity ratios for São Paulo companies, 108 –9 deposits: contraction after bank panic, 174, 177; at domestic banks during bank panic, 177; at foreign banks during bank panic, 176; as funding source for loans, 167, 174 descontos, 37. See also discounting Diniz, José Maria, 87 discounting, 32, 36, 44; as proportion of bank credit, 50 –51; rate in Rio de Janeiro, 41 domestic industry: competition from imports, 62 – 63; effect of consumption taxes on, 150 –51; information problems, 149; legalized, 149; and tariff policies, 150 Dutch East India Company, 61 Egydio, Dr. Paulo, 53, 73 Empresa Fiação e Tecelagem Araraquara, 163, 167 Encilhamento, 86, 89, 91–92; and economic diversification, 93; money supply, 131; real estate boom, 135; risk premiums, 146; ties to 1900 bank panic, 174 English Bank of Rio de Janeiro (São Paulo), 47– 48 English Bank of Rio de Janeiro, Ltd. (Santos), 39 equity capital in São Paulo: in the 1880s, 75, 82; growth between 1886 and 1905, 95; shares in circulation after 1905, 107 exchange rate: 1890s, 91–92, 131; and monetary policy, 131, 149; stability 33, 92

Index Fábrica Mariangela, 167 financial intermediaries: advantages of formal, 35; Catholic Church as, 8; consolidation in São Paulo, 182 – 85; and economic growth, 17; French notaries as, 8; informal relationships, 25; institutional evolution, 50, 62; merchants as, 8; personal, 25, 35, 45; trust, 6 – 8, 44, 61, 69, 182 – 83, 185 financial statement, sample, 205 – 6 Fohlin, Caroline, 119 foreign banks in São Paulo: cash-todeposit ratios, 176; expansion, 180; home office funds, 175 –77; liquidity ratios, 171, 175; market share, 48; new entrants after the bank panic, 180 foreign capital in São Paulo, 21, 23, 109 – 11: dominance, 49; investment in São Paulo industry, 110; loans to São Paulo government, 109; sectoral and geographical concentration, 109 –11; volume invested in São Paulo, 109 –10 foreign trade, growth in the nineteenth century, 28 Franco, Antônio de Lacerda, 128 Frank, Andre Gunder, 49 French notaries, 8, 138 French Revolution, 13, 15 Frigorífico Barretos, 163 Funding Loan of 1898, 92, 174 German “great banks,” 116. See also universal banks Glass Steagall Act, 120 government policy: absence of regulation, 29; ambivalence toward domestic economic development, 21, 149 –50, 158, 160; concessions to universal banks, 124; and economic growth after 1906, 99; effect on financial institutions, 18, 121, 123; regulatory environment, 21, 63 – 65, 67– 68, 71, 86 – 88, 125, 129, 132, 153 –54. See also company law Graham, Richard, 49 Haber, Stephen, 17, 18 hipotecas, defined, 167– 68. See also mortgage-backed loans Hoffman, Philip, 15, 138 home office funds, 175 Hudson’s Bay Company, 61

283 Ibicaba Plantation, 42, 148 illiquidity, 25, 28, 33 immigrant labor(ers): demand for, 27–28, 121; São Paulo subsidy program, 45; turned coffee planters, 42; volume of immigrants, 45 import taxes, 91 independence of Brazil from Portugal, 24 industrial firms in São Paulo, value of compared to Brazilian firms, 104 industrialization: establishments in São Paulo (1880s), 46 – 47; in interior cities (1880s), 47; limitations of private finance, 62 – 63; links to coffee, 4 –5; United States, Mexico, and Brazil compared, 18 information: costs, 7, 118, 143; and formal banking, 44 information problems: and agriculture, 42 – 43; bank specialization to ameliorate, 158 – 60; interlocking directorates to ameliorate, 160 – 64; proliferation of new businesses, 158; and rise of hinterland banks, 164; shifting government policy, 158 infrastructure in São Paulo: benefits of improvements, 63; construction of railroad networks and port facilities, 28; deficiencies of, 28, 33 –34; development via joint-stock companies, 63 insider lending, 39, 182 interest rates: on debenture bonds, 80, 82; on mortgage-backed notes, 137; Rio de Janeiro discount rate, 41; and risk, 41; on rural mortgages, 41, 53, 123, 125; on urban mortgages, 143; usury, 8 interlocking directorates: between bank and non-bank companies, 161, 183 – 85; and German banks, 117, 160; among immigrants in São Paulo, 183 – 84; and New England banks, 160; and São Paulo commercial banks, 160 – 64; and São Paulo universal banks, 127–29 Ituana Railroad: debenture issues, 80 – 81; as early joint-stock company, 72; founded, 72; interlocking directorates, 128; original shareholders in 35; stocks and bonds, 73, 76, 80; ties to other companies, 128, 162

284 joint-stock companies: advantages for economic development, 56 – 61; in England, 61; and entrepreneurs, 59; in France, 61; in Germany, 61; growth in formations after 1906, 100; and infrastructure development, 63; and investors, 59; in non-traditional sectors, 100; regulation (see company law); represented on the Bolsa, 93 –95; response to 1890 reform, 87; response to economic expansion, 56; risk of investing in, 59; in São Paulo (1870s), 71–72; in the São Paulo textile industry, 101–3 Joslin, David, 171, 174, 179 Junta Comercial (Business Council, São Paulo), 66 Junta de Corretores (Broker Council), 69, 71 Junta do Comércio (Business Council, Rio de Janeiro), 69 Kreditbanken, 116 Lamoreaux, Naomi, 16 Land Law of 1850, 27, 43 – 44, 138 “Law of Impediments” (Lei dos Entraves), 32, 66, 67 Levi, Darrell, 38, 62 liability: and joint-stock company formation, 20, 154; limited, 86, 93, 154; of shareholders, 21, 154; unlimited, 21 liquidity: at banks, 169; and banks of issue, 121–22; and early São Paulo banking sector, 36; and economic exchange, 12, 28; defined, 169; and monetary policy, 121, 151; and personal intermediaries, 25; riskiness of long-term lending and, 169; role of banks, 13, 30, 36 –37, 44, 47; and vulnerability to bank panic, 172, 174 – 80; wage labor and demand for, 26, 46, 53, 121–22 liquidity ratio: and 1900 bank panic, 172, 174; British standard, 170 –71; defined, 170; at São Paulo banks, 171–72 London and Brazilian Bank: cash balance, 176; contraction during bank panic, 179; direct investment in company stocks, 167; founded, 47– 48; planter dispute, 42; survival in bank panic, 180

Index market-to-par ratio, 106, 111 Marqueza de Santos, 35 Matarazzo, Francisco, 167 Mello, Zélia Cardoso de, 46, 78 merchants: credit and trade, 9; as financial intermediaries, 8; networks in colonial Brazil, 10; networks in early modern Europe, 8 –9 Mexican Bolsa, 18 Mogiana Railroad: bank investment in, 167; capitalization, 73, 75, 89 –90, 96; as early joint-stock company, 72; investors in, 96; new stock issues, 73, 89 –90; number of shareholders, 96; on the Santos Bolsa, 105; shares outstanding, 74; ties to other companies, 128, 162 – 63 Moinho Santista, 95 money supply: the Encilhamento and, 131; government policy regarding, 33, 91–92, 122, 151; inflation, 91; reduction, 92 monitoring costs, 118 monopolies: and investors, 59; of public services companies, 77 mortgage-backed loans, 167– 69, 171 mortgage-backed notes: and bank regulation, 121, 125, 136 –37; defined, 41; quotes on São Paulo Bolsa, 137, 148; as sources for long-term loans, 138 mortgage banking: Brazilian regulatory legislation, 41, 120 –23, 135 –36; lending practices, 15 mortgage loans: Brazilian government restrictions on, 41; in nineteenthcentury France, 137; risk and volume of in São Paulo, 138 – 40; from São Paulo commercial banks, 139; in the western United States, 137 municipal bonds listed on Bolsa, 96 –97 Murtinho, Joaquim, 91–92, 149 –51, 174, 191–92 New England: kinship finance, 14, 39; banks and business finance, 57, 120 Pang, Eul Soo, 62 parentela, defined, 38 Paulista Railroad: bank investment in, 167; capitalization, 74, 80, 89, 96;

Index debenture issues, 80 – 81; as early jointstock company, 72; founded, 72, 74; new stock issues, 89, 96; number of shareholders, 96; original shareholders in, 35; profit guarantees, 79; on the Santos Bolsa, 105; shares outstanding, 74; stock price premium, 74; ties to other companies, 128, 162 – 63 penhor agrícola, defined, 52 Pestana, Emílio Rangel, 53, 72 –73, 87 politics and corporate structure, 17 population growth and business expansion, 46, 101 Postel-Vinay, Giles, 15, 138 praça do comércio, 71 Prado, Antônio, 33 –34 Prado, Antônio da Silva, 163 Prado, Martinho, 34 Prado clan: and economic diversification, 62; ownership stake in Banco do Brasil (São Paulo affiliate), 38 –39 private banking houses in São Paulo, 36, 39 profit guarantees: and investors, 59; Paulista Railroad, 79; to railroads, 75; to stimulate mortgage banking, 53, 121 profits: ability to attract investors, 144; commercial banks relative to universal banks, 152; estimates for São Paulo domestic banks, 198 –206, 207– 8tab; and new business formation, 144; and risk, 145 – 46; sources and methodology, 195 –97; at universal banks, 145. See also return on equity property rights: foreclosure, 138; mortgagebank failure, 147; and risk to lenders, 43. See also Land Law of 1850 Queiroz Teles clan, 62 recession, 91, 93 regional commercial banks: demand for services, 165; founded, 165; hipotecas, 167– 68; lending and non-traditional credit, 165 – 68; liquidity ratios of, 171–72; profitability compared to other bank types, 165; return on equity, 200 Reichert, Dr. Teodoro, 39 Republican coup of 1889, 21, 84

285 return on equity: defined, 144; for all São Paulo domestic banks, 198 –201, 207– 8tab; at universal banks, 145 – 46 returns to government bondholders, 145, 208 –10tab returns to investors: dividends, 60, 201– 2; stock price appreciation, 60, 203 – 4 returns to shareholders: defined, 144; dividends, 201–3, 208 –9tab; risk premiums, 202 –3; risk premiums and economic instability, 203; for São Paulo domestic banks, 201–2; universal banks compared to commercial banks, 147. See also total returns Rezende, Geraldo de, 163 Rio de Janeiro Bolsa, 105 risk: aversion by bankers, 44; dampening effect on loans to agriculture, 43 – 44, 138; effect on interest rates, 41; and shortage of long term credit, 40 – 41; uncertainty in agricultural production, 41– 42, 138 risk premium. See returns to shareholders Rodovalho, Antônio Proost, 91, 128, 161 Rodovalho, Antônio Proost, Jr., 87– 88 Rodrigues, Francisco A. Dutra, 128 Rodrigues, José Duarte, 128 Roe, Mark, 16 –17 Rosenthal, Jean-Laurent, 15, 138 Royal African Company, 61 Sá and Andrade, 53, 73 Saes, Flávio, 46 Santos Bolsa, 104 –5 Santos-Jundiaí Railroad, 3 Santos port, 33 São Luís textile factory, 128 São Paulo Bolsa: contribution to economic diversification, 111–13; contribution to industrial formation, 93 –94, 103 – 4; firm composition of 1895 – 1905, 93 –95; and impersonal investment, 105 – 6; organized 1890, 87– 88; renaissance after 1906, 99; reorganized 1895, 89; sectoral composition after 1906, 100 –103 São Paulo Commercial Association, 128 São Paulo Tramway, Light and Power Company (“Light”), 110 –11 Sertório, Domingos, 128

286

Index

shareholding, concentration and growth, 95 –96 Siciliano, Alexandre, 95 signaling effect, 59, 117, 182, 160 – 61 Silva, Gabriel Dias da, 163 Silva, Ismael Dias da, 163 Silva, Joaquim José de Santos (Barão de Itapetininga), 162 single proprietorships in São Paulo, 62 slavery: abolition of, 26, 29, 121; Rio de Janeiro planters’ reliance on, 121; slave imports, 26; slave population, 26 –27 slave trade: internal, 27, 44; international, 26 –27, 29 –30, 33, 44 Sorocabana Railroad: debenture issues, 80 – 81; as early joint-stock company, 72 sources and uses of bank funds, 167, 174 South Sea Company, 61 Souza Aranha, Joaquim Egydio de (Marquês de Três Rios), 128, 162 – 63 Souza Aranha clan, 62 Souza Queiroz, Francisco Antônio, 39 Souza Queiroz clan, 62 stamp taxes, 70, 92 –93 stock and bond exchange, 59 – 60. See also São Paulo Bolsa stocks: price behavior, 106; price premiums, 106; trading and liquidity, 71; trading ratio, 106, 111; trading regulation via 1876 decree, 71; various uses of, 78 – 80, 82 sugar production in São Paulo, 33 Summerhill, William, 63 superdirectors, 161, 163, 183 – 84, 184tab Swiegart, Joseph, 62

transactions costs, 38, 118, 120, 143 transportation costs and economic growth, 63 Triner, Gail, 44, 143, 147– 48, 185 trust, 6 – 8, 44, 61, 69, 182 – 83, 185

Taylor, Alan, 19 total returns: defined, 203; for domestic banks compared to government bonds, 210tab trading activity and ratio, 106, 111

wage labor: and consumer demand, 46; and growth of internal commerce, 46; and liquidity needs, 46, 121 wealth and stock ownership, 78 White, Eugene, 16

universal banks: absence of in Britain and the United States, 119 –20; advantages over commercial banks, 117–18; and Brazilian mortgage banking legislation, 120, 123 –24; in France, 119; in Germany, 118 –19; and the Industrial Revolution, 115; interlocking directorates in German banks, 117; in Italy, 119; lending practices, 15 universal banks in São Paulo: commercial banking portfolios, 127, 131–33; effect of government policy on, 149 –51; failure in 1900 bank panic, 151; industrial/construction portfolios, 133 –35; information problems regarding clientele, 148 –50; interlocking directorates, 127–29, 160 – 64; investor interest in mortgage-banked notes, 148; issue portfolio, 130 –31; macroeconomic instability, 148; mortgage portfolios, 135 – 40; profitability, 144 – 46; reasons for failure, 115; returns to shareholders, 146 – 48 urbanization and demand for services, 101 Vergueiro, José, 42, 148 Vergueiro, Nicolau, 27, 39 Vidraria Santa Marina, 95, 163 Votorantim textile mill, 95, 129, 134