Historical Perspectives - Famous Bubbles | Dot Con | FRONTLINE (2024)

· Tulipmania (1634-1638)

Perhaps the most famous example of a speculative bubble is the "tulipmania"that struck 17th century Holland. Known for their passionate love of flowers,the Dutch highly prized the tulip upon its introduction to Western Europe inthe mid-16th century. Dutch collectors devised a hierarchy of tulip varietiesbased upon their species and coloring, assigning values to the various flowers.Because it was impossible to determine which variegation would bloom from aparticular bulb, the tulip became an object of speculation. During their earliest years in Europe, the bulbs were primarily of interest to the wealthy, but by the mid-1630s the craze caught on with middle-class and poorer families. The increased demand caused the price of the bulbs to soar.1

The market reached its height in late 1636 and early 1637, after the bulbs hadbeen planted to bloom the following spring. People mortgaged their homes andindustries in order to buy the bulbs for resale at higher prices. Charles Mackay, in his definitive history of early financial bubbles, Extraordinary Popular Delusions and the Madness of Crowds (1841), published a listof objects (and their prices) which were exchanged for "one single root of therare species called the Viceroy":

• Two lasts of wheat (448 florins)
• Four lasts of rye (558 florins)
• Four fat oxen (480 florins)
• Eight fat swine (240 florins)
• Twelve fat sheep (120 florins)
• Two Hogsheads of wine (70 florins)
• Four tuns of beer (32 florins)
• Two tuns of butter (192 florins)
• One thousands lbs. of cheese (120 florins)
• A complete bed (100 florins)
• A suit of clothes (80 florins)
• A silver drinking-cup (60 florins)2

In February 1637, as spring drew near and the bulbs were close to flowering,consumer confidence evaporated and the market suddenly crashed. As the pricestructure collapsed, Mackay reported that "hundreds who, a few monthspreviously, had begun to doubt that there was such a thing as poverty in theland suddenly found themselves the possessors of a few bulbs, which nobodywould buy, even though they offered them at one quarter of the sums they hadpaid for them."3 Litigation ensued, and a government commissionruled in May 1638 that tulip contracts could be annulled upon the payment of3.5 percent of the agreed price.

· The Mississippi Bubble (1719-1720)

The Mississippi Bubble -- which derives its name from the French MississippiCompany -- grew out of France's dire economic situation in the early 18thcentury. By the time of Louis XIV's death in 1715, the treasury was inshambles, with the value of metallic currency fluctuating wildly. The followingyear, the French regent turned to a Scotsman named John Law for help. Law, agambler who had been forced into exile in France as the result of a duel,suggested the Banque Royale take deposits and issue banknotes payable in thevalue of the metallic currency at the time the banknotes were issued. Law'sstrategy helped the French convert from metallic to paper currency, andresulted in a period of financial stability, as well as his own increased fameand power.

In August 1717, Law incorporated the Companie des Indes (commonly known as theMississippi Company), to which the French regent gave a monopoly on tradingrights with French colonies, including what was then known as "FrenchLouisiana." In August 1719, Law devised a scheme in which the MississippiCompany subsumed the entire French national debt, and launched a plan wherebyportions of the debt would be exchanged for shares in the company. Based uponthe expected riches from the trading monopoly, Law promised 120 percent profit forshareholders, and there were at least 300,000 applicants for the 50,000 sharesoffered.4 As the demand for shares continued to rise, the BanqueRoyale -- which was owned by the French government but effectively controlledby Law -- continued to print paper banknotes, causing inflation to soar.

The bubble burst in May 1720 when a run on the Banque Royale forced the government toacknowledge that the amount of metallic currency in the country was not quiteequal to half the total amount of paper currency in circulation.5 OnMay 21, the government issued an edict that would gradually depreciateMississippi Company shares, so that by the end of the year they would be valuedat half their nominal worth. The public outcry was such that one weeklater, on May 27, the Regent's Council issued another edict restoring theshares to their original value. On the same day, however, the Banque Royalestopped payment in specie. When the Banque Royale reopened in June, the bankruns continued. By November, shares in the Mississippi Company were worthless,the company was eventually divested of its remaining assets, and Law was forcedto flee the country.

· The South Sea Bubble (1720)

During the same period that French speculators were driving up the price ofshares in the Mississippi Company, English speculators were purchasing stock inthe South Sea Company. Formed in 1711 by Robert Harley, the South Sea Companywas created to convert £10 million of government war debt (incurred duringthe War of Spanish Succession) into its own shares. In exchange, the companywould receive annual interest payments from the government and a monopoly ontrade with the South Seas and South America. The exchange was successful andalthough the expected trade riches never materialized, the company continuedwith several other debt conversions.

In 1720, following John Law's example in France, the company proposed to takeover the entire British national debt. As soon as the plan was announced toParliament, the company's share prices began to rise as speculators gambled onthe conversion plan. The House of Lords approved the plan on April 7, 1720,after government officials had been bribed with secret allocations of shares.In order to make the deal more attractive, the company inflated the value ofits stock. On April 14, £2 million of South Sea Company stock was offeredto the public at £300 per share and the subscription sold out within anhour. The company made several more stock offerings, all of which sold out,with the subscribers representing all social classes.

The apparent success of the South Sea Company's scheme led to the appearance ofmany new joint-stock companies, which became known as "bubble" companies.Charles Mackay described some of the new companies:

One of them was for a wheel for perpetual motion -- capital onemillion; another was 'for encouraging the breed of horses in England, and improving of glebe and church lands, and repairingand rebuilding parsonage and vicarage houses.' ... But the mostabsurd and preposterous of all, and which shewed, more completely than any other, the utter madness of the people, was one started by an unknown adventurer, entitled, "A company forcarrying on an undertaking of great advantage, but nobody to know what it is." Were not the fact stated by scores of credible witnesses, it would be impossible to believe that any personcould have been duped by such a project.6

Mackay notes that the subscription for this final company sold out, and thesatisfied entrepreneur promptly disappeared to the Continent. Worried about thecompetition from the bubble companies and in an attempt to sustain their shareprice, the South Sea Company convinced the government to pass the Bubble Act inJune 1720. The act prevented the establishment of new companies withoutgovernment permission, and allowed existing companies only to carry out thoseactivities that were prescribed by their charters.

The price of South Sea stock peaked at £1050 in late June of 1720, beforethe scheme began to fall apart. The first large drop in the market occurred inAugust, as foreigners and other investors began to withdraw from the market.British domestic credit was stretched to its limit and the scheme finallycollapsed at the beginning of September, with the stock having fallen by 75 percent infour weeks. Parliament conducted an investigation, corrupt politicians andbusinessmen were imprisoned, and over £2 million was confiscated from SouthSea Company directors.

· The Bull Market of the Roaring Twenties (1924-1929)

The raging U.S. stock market of the late 1920s was hailed by many as evidence of a"new era" of economic fundamentals. Proponents of this theory pointed toevidence such as the establishment of the Federal Reserve in 1913; Coolidgeadministration policies including the extension of free trade,anti-inflation measures, and the relaxation of anti-trust laws; and corporate improvementssuch as increased worker productivity and expanded research and development.

In reality, the driving factor behind both the inflation and the bursting ofthe speculative bubble was the expanding use of leverage (i.e., debt) byindividuals as well as corporations. The decade was marked by an enormousexpansion of consumer credit, which Americans used to finance purchases of newproducts such as automobiles and radios, which were created using new techniques of massproduction that additionally helped to drive down prices. Consumers also usedcredit to purchase stocks, and as the stock market escalated, investors beganto take advantage of margin loans provided by their brokers. Their primarytargets were industries involving new technologies, such as the automobile,motion picture, and aircraft industries. Radio stocks boomed, rising by 400 percent in1928 alone,7 and the stock market attracted an immense publicfollowing.

On Sept. 3, 1929, the Dow Jones reached its high for the year before thebubble began to deflate. Oct. 24, which became known as "Black Thursday,"marked the beginning of the stock market's downturn, remembered as the "Crashof 1929." Almost 13 million shares were traded on that day as an unexpectedpanic affected the markets. Although the following Friday was quieter, the Dowfell by a record 38 points on Monday, Oct. 28, and another 30 points on theinfamous "Black Tuesday," Oct. 29, when a record 16.5 million shares changedhands. Following the chaos of October, the market briefly rallied throughspring 1930 before plummeting again during the early 1930s.

· The Japanese "Bubble Economy" (1984-1989)

From the 1960s to the 1980s, Japan had one of the highest economic growth ratesin the world. In the 1970s, the government began to deregulate financialmarkets, which allowed banks to actively seek out new customers. During themid-1980s, Japan took a loose approach to monetary policy, which caused themoney supply to increase and interest rates to fall. The combination of thesetwo actions was important to the creation of a speculative bubble: with lowinterest rates and easier access to credit, new actors entered the financialmarkets.

The stock market bubble was fueled by a Japanese corporate invention, known as"zaitech," or "financial engineering," by which speculation became an integralpart of corporate earnings statements. After obtaining low-interest loans,corporations were easily able to raise funds on the markets. While these funds sometimes fueled capital investment, they often were recycled back intofurther speculative market activities. As the Nikkei kept zooming higher andhigher, corporations were able to report their speculative profits as higherearnings. Investors would then rush to purchase their stock, driving earningseven higher and providing more funds for the company's speculative actions. Atthe end of the decade, speculation dominated the activities of some businesses:it is estimated that perhaps 50% percent of total reported profits from Japan's largestcorporations were derived from zaitech.

Land speculation was another important part of the bubble economy. Japaneseland prices were traditionally high, partly due to the mountainous islandnation's small amount of available land. Because of its high value, banks oftenaccepted property as collateral for loans, and land served as the engine ofcredit for the entire economy.

By 1989, Japanese government officials were growing uneasy about theskyrocketing values of the Nikkei and land valuations. In May 1989, ittightened monetary policy by raising interest rates, and ordered another hikeon Dec. 25. While the Nikkei reached its all-time high on Dec. 31,stock prices began to plummet in January. The government increased interestrates five more times before August 1990, to try and halt the continued rise ofproperty prices. But as the Nikkei kept falling, it was forced to intervene ina futile attempt to try and revive the market and stave off recession.Throughout the 1990s, Japan experienced slower growth than any other majorindustrial nation.8

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