The 12th-century military disaster that forever changed global finance

The birth of the bond market started with a ruthless multinational raid that sent shock waves through the Mediterranean. On the morning of March 12, 1171, the Byzantine emperor’s soldiers suddenly rounded up every Venetian man, woman, and child they could find throughout their lands, seized their shops, wares, and ships, and threw the owners in jail. Over 10,000 people in Constantinople alone were rounded up, and more than 20,000 overall — so many that monasteries were requisitioned to handle the overflow. The raids were a consequence of more than a century of rising tensions between Constantinople and its nominal vassal in northern Italy.

By the 12th century, Venice was the beating heart of Mediterranean trade. It became Europe’s emporium, with 80,000 citizens almost all dedicated to commerce in some fashion. Partnership contracts between investors and merchants known as colleganza allowed even poorer citizens to pool their money, invest in long-distance trade, and share in both the risks and the spoils. These became known as commenda elsewhere in Italy and were an early precursor to joint-stock companies that sprang up in northern Europe centuries later. These ensured a stunning level of social mobility in Venice. One surviving colleganza from the period reveals how Zaccaria Stagnario, the grandson of a freed Croatian slave and the son of a humble helmsman, managed to turn his skill as an entrepreneurial trader into a fortune, and eventually his family’s entry into the Venetian governing elite.

As a result, anyone visiting the city’s Rialto market would have been astonished at the exotic products available at its multitude of shops and stalls, ranging from strong Bohemian iron and solid French oak to intricate jewelry from Antwerp, subtle Portuguese wines, pungent Levantine spices, Russian ermine, and religious relics brought back by returning Crusaders. Even centuries later, the Rialto was so famous that it was name-checked in Shakespeare’s The Merchant of Venice. A zeal for trade had transformed Venice into one of the world’s wealthiest cities — something that Venice’s leader, Doge Vitale II Michiel, had to take advantage of in the hostilities with his suzerain in Constantinople.

When news arrived of Emperor Manuel I Komnenos’s sweeping raids, the shocked doge summoned his counselors from Venice’s most prominent families to advise on a course of action. Together they agreed on caution, skeptical that the excitable reports they had received could be true and wary of how outright war would damage their main objective, commerce. Rather than act rashly, they resolved to send envoys to find out what had actually happened, ask for the release of Venetian prisoners, and ensure that their property was returned. After all, the Republic of Venice was known as La Serenissima — The Most Serene — for a reason.

Unfortunately, this circumspect, diplomatic approach was almost immediately scuttled when a convoy of Venetian ships that had managed to flee the Byzantine crackdown sailed into town, carrying distressing tales of injustices that infuriated the Venetian citizenry. Faced by an outpouring of popular anger, Doge Vitale II reluctantly decided to lead a fleet of warships to exact revenge on Constantinople and free the city’s imprisoned citizens. And this is where the bond finally enters our story.

Venice’s famous Arsenale shipyard had not yet reached the peak of its powers — at one point it was said to be Europe’s largest industrial cluster — but it was still able to churn out the war galleys needed. However, the armada they planned to launch against Constantinople would cost dearly, and the city itself had little money, despite the wealth of its citizens.

The Italian statelets typically taxed modestly and covered larger expenditures with ad hoc loans. These were often backed by security in a specified state asset or revenue stream, such as toll receipts. For example, in 1164, Venice had borrowed about 270 kilograms of silver from a dozen of its wealthiest families, and in return granted them 11 years’ worth of its income from the Rialto market. But the scale of the navy needed to take its own sovereign down a peg meant that heading down to the Rialto market to hit up its moneylenders wouldn’t suffice.

The doge had a drastic solution. He divided the city into six districts, systematically assessed the wealth of its citizens, and forced them to hand over the money Venice needed for its fleet. But rather than a straightforward one-off war tax, it would be a loan, albeit an involuntary one. Venice promised to pay its citizens 5% a year until the debt could be repaid. Crucially, the receipts of the prestiti — the plural of prestito, or loan — were made tradable, so a citizen who needed to raise money could sell their claim to someone else at a discount if necessary.

Exactly how much was raised is unknown, but it must have been a considerable sum. Within months, it allowed Venice to dispatch 120 warships with the doge himself at the helm of the fleet. This would be sufficient to unleash havoc on Constantinople’s territories, forcing Emperor Manuel to free Venice’s citizens, restore their property, make good the damages, and think twice about challenging the Serene Republic again. Unfortunately, the expedition ended up a debacle.

The Venetian fleet started strongly, landing on the Greek island of Negroponte and laying siege to Chalcis, its Constantinople-controlled capital. But the doge’s cautious, diplomatic instincts came back to the fore. In return for the desperate governor of Chalcis sending an emissary to Constantinople to urge Emperor Manuel to release his Venetian prisoners, Vitale withdrew his fleet to the island of Chios. There he spent the winter waiting for word from Constantinople, optimistic that outright war could still be averted.

Manuel had no desire for negotiations, but cannily realized that time was on his side. The longer he could delay a Venetian attack, the longer he had to assemble his own forces. The emperor sent his own envoy to Chios to nurture Vitale’s hopes, asking for yet another delegation of ambassadors for further talks.

Then disaster struck. The moored Venetian fleet at Chios was hit by the plague, with more than a thousand men dying in just the first few days. It desperately started moving from one Greek island to the next, but remained just as blighted by disease. Then the Venetian ambassadors returned from Constantinople with bad news: The emperor had refused to even see them.

With his armada slowly dying and no longer a credible threat to Constantinople, Doge Vitale returned to Venice with what remained of the fleet in May 1172.

By May 27, a meeting was held at the Ducal Palace for Doge Vitale, his counselors, and the Venetian citizenry to discuss the debacle. Bereaved Venetians became increasingly irate, accusing the doge of cowardice, gullibility, and failure. They had given him the means of revenge, and he had blown it. Compounding their ire, the returning ships had brought the plague to Venice.

The anger gradually deepened, as each furious speaker whipped up the next. Eventually, the mood became so vitriolic that the doge’s advisers quietly started slipping away. Eventually Vitale himself attempted to flee for the nearby convent of San Zaccaria. But he was caught by the angry mob and stabbed to death on the streets of Venice.

The credibility of the regular and fixed interest payment, coupled with the tradeability of the debt, transformed what was initially an annoying reminder of Venice’s humiliation into a monument to its commercial genius.

This belatedly caused a bout of soul-searching by Venetians, who decided that they had wronged their peace-loving doge. Marco Casolo, the man who had dealt the fatal blows, was executed and his house razed. After the doge’s funeral, the regretful Venetians decided not to elect a new doge themselves. Instead, they chose an 11-person commission that would select Venice’s new ruler, apparently as a guard against the recently demonstrated rashness of the mob. Although engineered by the city’s wealthiest merchant families, this represented a quiet democratic revolution. The new Great Council became a proto-parliament that helped solidify Venice’s remarkable success.

Another oddity that persisted for a long time afterward was the loan that Venice had imposed on its citizens. Shut out from Byzantine ports — it would take almost two decades to reach a truce with Constantinople and get the prisoners released — and financially stricken by the failed venture, Venice did not have the wherewithal to repay the prestiti as planned. What was initially an involuntary emergency loan in practice became a permanent mountain of state debt.

Venice did maintain the 5% interest payments, setting aside tax revenue from the Rialto stalls to cover them. To reassure its anxious creditor-citizens, transparent records of all revenues and payments were maintained by Venice’s Procurator of Saint Mark — a kind of deputy-doge-cum-finance-minister. Eventually this job went to the city’s Great Council, reinforcing its importance. This body was dominated by the city’s wealthiest families, who as both creditors and citizens had an interest in ensuring that Venice did not simply abrogate its debts as many absolute monarchs around Europe often did, ruining many banking houses in the process. Whenever a new war or financial emergency broke out, the Great Council would mandate the issuance of new prestiti.

The credibility of the regular and fixed interest payment, coupled with the tradeability of the debt, transformed what was initially an annoying reminder of Venice’s humiliation into a monument to its commercial genius.

Now, anyone in Venice could take money they had saved up and convert it into a future cash flow — perhaps to secure some income for when they retired, endow a charity, or give away as a dowry. They could use the prestiti as collateral for other loans, or as surety for goods. And if they needed to get back their money — or were worried about the solvency of Venice — they could head down to the Rialto market and sell their claims to the bankers, speculators, and merchants who had started to actively trade the prestiti there.

The Campo San Giacomo di Rialto — a colonnaded courtyard that is today a fresh vegetable market — thus became the world’s first bond market. Around it moneymen and their banci wooden tables would buy and sell prestiti, in addition to their usual business of exchanging currencies, pawning goods, taking deposits, and making loans.

Not only did the burden of the prestiti this way actually become a public good — in fact, a crucial component in the rise of the Italian city-states, many of which adopted the Venetian innovation — but it helped solidify the links between citizens and the state.

This article is featured on Big Think.