6 International Organization large quantity-note issuing,which in many countries already was,or about to be- come,regulated by government,and equity;deposits played a marginal role.By midcentury,however,the spread of industrialization led to a relative enlargement of the saving public and to a shift of the public's preferences from cash to checks(or credit transfers)for transaction purposes.Demand for deposit accounts,long and short,grew so much that it became thinkable for private bankers to finance lending with deposits taken from numerous individuals with whom they had no prior or other dealings.Banks saw in deposit-taking a way of improving profitability.Depositors typically earned less than bank shareholders;by increasing the share of deposits relative to capital,banks could increase earning on capital.The second part of the nineteenth century thus saw in most countries a rush toward deposit banking.Lead- ing in this new type of banking were the clearing banks in England and Wales,the Credit Lyonnais in France,and the Deutsche Bank in Germany. Deposits grew in the economy as a whole relative to gross national product (GNP)and in the banking sector relative to other banking resources.I8 The rising importance of deposits created a liquidity problem for the banks for two reasons. First,deposits were short-term assets.Although banks tried to lengthen the maturity of deposits by creating term deposits,according to which early withdrawals carried penalties,they could never prevent depositors confronted with the danger of a bank run from cashing their savings rather than facing the risk of losing them all.Second, unlike stockholders,depositors had no insider information on the good management and solvency of the bank.They could not monitor the management nor draw a reliable assessment of the bank's solvency.They relied instead on rumor,with the result that banks were subject to "sunspot"panics,that is,runs on deposits with no other rationale than each depositor's fear of being the victim of other depositors'fear of runs.A run on a bank would trigger a run on other banks if it were believed that the collapse of the first bank would weaken the liquidity of the others,as was often the case.19 The liquidity problem arising from the generalization of deposits was com- pounded by another circumstantial change,taking the form of the progressive replace- ment of the bill of exchange by overdrafts.20 The substitution was caused by multiple separate changes,including the reduction in transport costs,changes in sale and payment practices (buyers paying cash to take advantage of discounts),the tele- graphic transfer of payments,and firms relying on checks in general to effect pay- ment.21 Overdrafts were better remunerated than bills,but they were easily renewed and thus less liquid.Unlike bills,moreover,advances could not be readily recycled through rediscounting at the central bank. 18.Data on commercial and savings bank deposits are found in Mitchell 1983,1992;for Australia, Butlin,Hall,and White 1971;and,for Denmark,in Johansen 1985.Data on financial assets are found in Goldsmith 1969. 19.The liquidity problems arising from the greater importance taken by deposits in banks resources are underscored in Lamoreaux 1994.107. 20.The terms bill of exchange and overdraft are defined in footnote 14. 21.Cottrell1980,204.large quantity—note issuing, which in many countries already was, or about to be- come, regulated by government, and equity; deposits played a marginal role. By midcentury, however, the spread of industrialization led to a relative enlargement of the saving public and to a shift of the public’s preferences from cash to checks (or credit transfers) for transaction purposes. Demand for deposit accounts, long and short, grew so much that it became thinkable for private bankers to Ž nance lending with deposits taken from numerous individuals with whom they had no prior or other dealings. Banks saw in deposit-taking a way of improving proŽ tability. Depositors typically earned less than bank shareholders; by increasing the share of deposits relative to capital, banks could increase earning on capital. The second part of the nineteenth century thus saw in most countries a rush toward deposit banking. Lead￾ing in this new type of banking were the clearing banks in England and Wales, the Cre´dit Lyonnais in France, and the Deutsche Bank in Germany. Deposits grew in the economy as a whole relative to gross national product (GNP) and in the banking sector relative to other banking resources.18 The rising importance of deposits created a liquidity problem for the banks for two reasons. First, deposits were short-term assets. Although banks tried to lengthen the maturity of deposits by creating term deposits, according to which early withdrawals carried penalties, they could never prevent depositors confronted with the danger of a bank run from cashing their savings rather than facing the risk of losing them all. Second, unlike stockholders, depositors had no insider information on the good management and solvency of the bank. They could not monitor the management nor draw a reliable assessment of the bank’s solvency. They relied instead on rumor, with the result that banks were subject to ‘‘sunspot’’ panics, that is, runs on deposits with no other rationale than each depositor’s fear of being the victim of other depositors’ fear of runs. A run on a bank would trigger a run on other banks if it were believed that the collapse of the Ž rst bank would weaken the liquidity of the others, as was often the case.19 The liquidity problem arising from the generalization of deposits was com- pounded by another circumstantial change, taking the form of the progressive replace- ment of the bill of exchange by overdrafts.20 The substitution was caused by multiple separate changes, including the reduction in transport costs, changes in sale and payment practices (buyers paying cash to take advantage of discounts), the tele- graphic transfer of payments, and Ž rms relying on checks in general to effect pay- ment.21 Overdrafts were better remunerated than bills, but they were easily renewed and thus less liquid. Unlike bills, moreover, advances could not be readily recycled through rediscounting at the central bank. 18. Data on commercial and savings bank deposits are found in Mitchell 1983, 1992; for Australia, Butlin, Hall, and White 1971; and, for Denmark, in Johansen 1985. Data on Ž nancial assets are found in Goldsmith 1969. 19. The liquidity problems arising from the greater importance taken by deposits in banksresources are underscored in Lamoreaux 1994, 107. 20. The terms bill of exchange and overdraft are deŽ ned in footnote 14. 21. Cottrell 1980, 204. 6 International Organization