The Bank of Scotland claims the honor of being the first incorporated bank owned exclusively by private shareholders and devoted exclusively to the business of meeting the banking needs of the private sector. The Scottish Parliament chartered the Bank of Scotland in 1695, and it remains the only surviving institution created by that body. The life of the Scottish Parliament came to a close in 1707 when England and Scotland merged.
In 1695 the larger continental states, France, Prussia, and Austria, depended solely upon private bankers, such as the famous Fugger family of bankers who held sway in the fifteenth and sixteenth centuries. These countries remained strangers to public banks. Italy, Holland, England, and Sweden had founded public banks, but they all had strong connections to governments. The Bank of Amsterdam was founded in 1609, the Bank of Sweden in 1656, and the Bank of England in 1694. The Bank of England was closest in character to the Bank of Scotland but Parliament chartered it mainly to raise money for the government. Some of the Italian public banks were little more than societies of government creditors. The Bank of Scotland was expressly forbidden in its charter to make loans to the monarchy.
The Bank of Scotland began as a pure corporation, entailing limited liability for its shareholders and the same standing as an individual in the eyes of the law. The Scottish Parliament gave the Bank of Scotland a monopoly for its first 21 years, and made its dividends free from taxation for that period. Anyone could purchase stock in the bank, including foreigners. Edinburgh was headquarters for the bank, but branch offices were opened in Glasgow, Aberdeen, Dundee, and Montrose.
Over the protest of the Bank of Scotland, the English Parliament in 1727 chartered a second public bank in Scotland, the Royal Bank of Scotland. Intense rivalry existed between these two banks from the outset. By 1745 Scotland had a highly developed banking system, and notes of these banks were an important means of payment. In 1746 a third public bank, the British Linen Company, received a charter.
By 1730 the Bank of Scotland on three separate occasions had seen the necessity to suspend payment on its bank notes. In that year its directors approved the insertion of the so-called optional clause on its bank notes. The optional clause committed the bank to either redeeming its bank notes on demand, or suspending redemption for six months, and paying a specified interest rate during the interval of suspension. The English Parliament banned the optional clause in the Scottish Banking Act of 1765.
The Act of 1765 also opened up Scotland to “free banking,” rendering it easier to organize banks that issue notes. Under Scotland’s system of free banking, the Bank of Scotland took the lead in policing the issuance of bank notes by the smaller, provincial banks. In 1776 Adam Smith heaped high praise on the Scottish banking system, writing that “the business of the country is almost entirely carried on by means of the paper of those different banking companies. Silver very seldom appears and gold still seldomer.”
In the nineteenth century Parliament began to concentrate the note-issuing authority in the hands of the Bank of England. In 1833 the Bank of England’s notes became legal tender in England, a status not enjoyed by other bank notes. In 1844 Parliament restricted the further issuance of bank notes by any other bank than the Bank of England. As the Bank of England assumed the role of Britain’s central bank, the Bank of Scotland lost its position of leadership in Scottish banking. Mergers between Scottish banks in the nineteenth and twentieth centuries periodically rearranged the rankings of Scottish banks in terms of size, but the Bank of Scotland has remained one of the largest banks in Scotland. A 1989 survey by the Economist found the Bank of Scotland to be the bank most admired by its peer bankers.