Chapter Content
Okay, so, like, for most of history, when we think about wealth, we're talking about actual stuff, you know? Like, back in the day, the richest people, they had the best houses, the biggest lands, you know, tangible things. Even when the Industrial Revolution kicked off, it was still about owning something physical – a mill, an ironworks, that kind of thing.
And, um, the first financial assets were really just claims on these physical things. Like, a piece of paper saying you owned some of the gold in a bank, or, like, a share of a ship and its cargo. But as finance got more complicated, this link between the paper and the stuff got weaker, you know? Stocks became about the *potential* of a business, not just its assets. Loans started getting traded around. And, like, currencies, which used to be gold or silver, suddenly became just, well, promises from banks or governments.
Businesses started borrowing money from regular people by issuing bonds, and these bonds, get this, could be traded too! It was getting kind of crazy. And that's where rating agencies came in, you know, like Fitch, Moody's, and Standard & Poor's. They basically told investors how risky these bonds were. AAA was the best, like, super safe. And, um, anything below "investment grade" was basically considered junk, yeah.
And then in England, by the end of the 1800s, retail banking was getting really consolidated, just a few big players. But there was this whole other world of investment banking, which was seen as, like, way fancier. They funded global trade, big companies, governments and stuff. Retail banking was, like, for the common folk, needing branches everywhere. And this merchant banking world was, like, super old-school. Educated at fancy schools, maybe served in the army. Not super concerned with being clever, yeah. Hours were short, lunches were long, and honestly, a lot of what they did would be considered insider trading today, totally illegal.
In the US, things were a bit different. They had laws that prevented banks from operating across state lines, so retail banking didn't consolidate as much. But the big banks in New York, like J.P. Morgan, became powerful internationally. And, um, after the Wall Street Crash, they passed this law called Glass-Steagall that separated commercial and investment banking. That’s actually how Morgan Stanley came about, yeah. And in Europe, the banks were just funding all kinds of industries, 'cause their stock markets weren't as big as in the US and Britain.
So, like, think about starting a business back then. You needed money for equipment, a place to work. You went to your local bank manager. He knew you, maybe your family. He'd look at your character, see if you were trustworthy, and probably ask for your house as collateral. That's still how it works for some small businesses.
But in the later part of the 20th century, that changed. For these new start-ups that didn't need much equipment, secured loans weren't going to cut it. They were losing money for years! So they needed investors. Banks weren't really doing that anymore. So you had "angels" – rich people who would invest, like that guy Mike Markkula who gave Steve Jobs and Steve Wozniak money to build Apple in their garage. But then, like, actual firms, venture capital firms, started popping up.
Silicon Valley became huge because of venture capital firms like Sequoia Capital and Kleiner Perkins. Sequoia funded Apple and Google early on. Kleiner did the same for Amazon and Netscape. It was like planting seeds. Most of these companies failed, but the few that succeeded made the investors tons of money, you know?
Even when things didn't work out, they could still make money. Think about Netscape. I mean, Microsoft crushed them, right? But Kleiner Perkins cashed out their five-million-dollar investment for four hundred million.
These venture capital funds, they're structured in this weird way, as "limited partnerships." The venture capital manager is the "general partner" and gets a cut of the profits, called "carried interest," without actually investing much of their own money. The "limited partners" are usually rich people, pension funds, charities. And the carried interest has tax advantages. It's super profitable, yeah. Sequoia's carried interest in Airbnb was worth, like, fifteen billion dollars! It's kind of crazy. Basically, the managers win no matter what. If the investment fails, they just don't get paid. The investors take all the risk.
And then, you have securitization. It’s when loans get packaged up and sold as bonds. And these packages get sliced into different levels, called tranches. The senior tranches get paid first, the junior tranches get whatever's left. The rating agencies give these tranches ratings too.
And the bankers got really good at finding the weaknesses in the rating agencies' models. They could get favorable ratings for really risky stuff. They also got good at selling these products to people who were just knowledgeable enough to pass the regulators’ tests, but not knowledgeable enough to know they were being ripped off. And then you had credit default swaps, which were like insurance on these securities, or a bet that they would fail. This whole mess of acronyms basically blew up in 2008, yeah.
There was this guy Michael Milken who basically invented the "junk bond." Normally, bonds become junk when the company stumbles. But these were *designed* to be junk from the start, high risk, high reward. Milken's idea was that people could use junk bonds to buy big businesses with very little of their own money.
And, um, another person who played a role in this was Alan Greenspan. He was the head of the Federal Reserve, and he, you know, kind of pushed for deregulation. He even helped pass a law that exempted a lot of these new financial products from regulation. He probably regretted it later, yeah.
Then you had these financial conglomerates starting to form. The 1960s started a lot of changes. Finance became global with the eurodollar market, and that had a lot of unintended consequences. People call it "deregulation," but there's actually way *more* regulation today than there used to be.
As things got more global, and policies became more about free markets, retail banks got more freedom. Britain had a "Big Bang" in 1986, which was a bunch of regulatory reforms. The US didn't have a "Big Bang," but they loosened the rules around stock exchange commissions and eventually repealed Glass-Steagall to, you know, basically let banks do whatever they wanted. Everyone wanted to go international. American and European banks set up shop in London. Retail banks started buying investment banks. It was all about dealmaking, yeah.