Henry Thornton (1760-1815) was a banker, philanthropist, Evangelical, one of the founders of the Clapham Sect and the treasurer of several evangelist societies, a politi­cian and an economist.

From a rich merchant family, he left his studies and began his career as a banker at the age of 18, in 1778. In 1784, he joined a private bank whose name became Down, Thornton and Free.

In 1802, Thornton published An Enquiry into the Nature and Effects of the Paper Credit of Great Britain (Thornton 1802 [1939]). Translations in French and German were published the following year. An American edition came out in Philadelphia in 1807. Except for a private reproduction by J.R. McCulloch in 1857, Paper Credit was not republished in Great Britain during the nineteenth century. However, Thornton’s influence on the Banking School in England and the Credit School in the United States is obvious. Hayek’s edition (1939) of Paper Credit contains Thornton’s evidence to the Parliament’s Committees of Secrecy on the Bank of England in March and April 1797, and the two speeches he made in May 1811 when the bullion report went into debate. His book and speeches reveal Thornton as a major economist. He made three main contri­butions to monetary and banking economics: (1) he stated the first theory of the central bank as lender of last resort; (2) he was the first to describe the gold points mechanism, which explains how a low exchange rate causes a rise in the market price of gold in a country where the gold standard is suspended; (3) he was the first to describe the interest rate mechanism by which new issues of money may entail a rise in monetary prices.

Smith’s Wealth of Nations (1776 [1976]) does not deal with central banking, but with competitive banking. The prevailing idea at the end of the eighteenth century was that, although it was bigger and more solvent, the Bank of England was similar to other banks and provided liquidity according to the same rules: it granted credit by issuing bank notes, thus taking both credit and liquidity risks, and had to dimin­ish its issues when its cash reserve fell. Thornton challenged this view by taking into account the velocity of circulation of bank notes. He explained that bank notes belong to a wide range of paper credit - which he refers to as a “circulating medium” - and that the velocity of the different kinds of credit varies with the interest rate and confi­dence. When confidence is high, traders prefer to hold commercial paper, which yields interest, and accept country bank notes in payment so that the demand for Bank of England notes and specie is low. On the contrary, when distrust reigns, traders prefer to hold specie and Bank of England notes, rejecting both commercial bills and country

bank notes, so that banks face liquidity difficulties and call for the rediscounting of bills by the Bank of England. When the velocity of circulation of country bank notes increases, while the velocity of the Bank of England notes decreases, the banking system becomes illiquid, even though it is solvent. All banks, including the Bank of England, have a low cash reserve. Now, in this case, if the Bank of England, following the Smithian rule, refuses to grant new loans to country banks and traders in order to issue the notes required, it will fuel this distrust, thus aggravating the liquidity crisis. By lending in last resort, on the contrary, the Bank restores confidence and reverses the crisis process. This monetary policy rule was to be harshly criticized by Ricardo’s followers.

Thornton also understood the bank liquidity risk caused by the operation of the currency market.

Thornton’s political view was that the war was responsible both for the panic that led to the suspension of convertibility in February 1797 and for the necessity to maintain the suspension as long as the hostilities lasted. In addition, the war necessitated the payment of subsidies to foreign allies, which in turn caused a high market price of gold and silver. However, Thornton did not rule out the idea that an excess issue of bank notes may cause a deficit in the balance of payments. On the contrary, he explained that a gap between the rate of profit and the usury interest rate may induce an excess issue of Bank of England notes, therefore an increase in prices, followed by a balance of trade deficit. He added that price inflation reduces the real value of the interest rate, thereby strength­ening the inflationary process. Credit rationing may be implemented to remove this cumulative process which leads to outflows of gold, bringing about either bank illiquid­ity or a high price of bullion, depending on whether there is convertibility or not. These developments regarding the interest rate and price levels foreshadow Alfred Marshall’s and Knut Wicksell’s analyses, and can be considered fundamental contributions to quantity theory.

Jerome de Boyer des Roches

See also:

Walter Bagehot (I); Balance of payments and exchange rates (III); Banking and currency schools (II); British classical political economy (II); Bullionist and anti-bullionist schools (II); Ralph George Hawtrey (I); David Hume (I); Alfred Marshall (I); Money and banking (III); David Ricardo (I); Adam Smith (I); Thomas Tooke (I); Knut Wicksell (I).