A Lesson In Bubble History (Part 1) - The Mississippi Bubble
There was a lot of talk about a possible tech bubble on the site a couple weeks ago and I started looking into bubbles and eventually delved into bubbles of the past. I came across some fascinating stuff. So I decided I’m going to start a series covering some of the bubbles that I found to be interesting. I should note, this is only a brief summary and if you are interested you should do your own research. With that being said, the bubble I chose for today is The Mississippi Bubble.
It all started with a financially troubled France. Following the death of King Louis XIV, France's treasury was in shambles. War had run up a huge bill that France was unable to pay, even by raising taxes to extreme proportions. France started to default on its debts resulting in fluctuations in the country's gold and silver currency.
Enter John Law, a Scottish gambler, banker and murderer (yeah, he killed a guy in a sword fight and was exiled to France).
Law though that the fluctuations in the currency was caused by the supply of gold and silver and suggested that, in order to build up its reserves, banks could take deposits in metallic currency but issue paper money. Law founded Banque Générale in 1716, a bank with the right to issue notes. This worked for a while and reserves along with the bank's stock prices and Law's influence, grew. In 1717, Law expanded his operations and took over The Mississippi Company in French Louisiana and formed Compagnie d’Occident (“Company of the West”), which later merged with rival companies and was renamed Compagnie des Indes (“Company of the Indies”) This corporation was given monopoly colonial trading rights in North America and West Indies by the French Regent Duke d’Orléans (also a good friend of Law’s) along with responsibility of collecting all the colonial taxes the responsibly of minting the country's money supply.
Law started selling shares of his company in order to raise capital to pay off the nation’s debt. He promised investors a 120% return on investment. Share prices sky rocketed from 500 to 18000 livres and demand for shares grew all over Europe. Banque Générale and Compagnie des Indes soon merged. Law also wanted to pay off France’s debts and started selling shares for state issued securities, which also saw a sharp rise in value. Speculation along with confidence in the company’s future (given that it was a state backed monopoly) sent the general European stock market into a boom in 1719. But this was short lived.
As demand for the shares grew, so did the demand for money which France’s government was happy to print. This soon led to hyperflation and the values of shares and securities started to go down. Profits from colonial trading was also not upto par. People started selling their shares and withdrew money in gold and silver instead of paper. John Law, realizing that the value of his company was overstated and the amount of gold and silver in the reserves was not nearly enough, capped the amount of metallic currency that could be withdrawn. He also depreciated the value of the shares and securities by half triggering a massive selling frenzy which further drove prices down until eventually stock markets all across Europe crashed.
Blame was put on John Law, who soon fled France.
Awesome idea! I look forward to the other parts of the series as well. Bookmarked and SB'ed!
Thanks man! And appreciate the SB!
For anyone wanting a slightly more in-depth look at the Mississippi Bubble and other bubbles, I recommend checking out Extraordinary Popular Delusions.
took the words right out of my mouth!
OP, +1, history needs to be taught more often in finance classes for those who actually plan to invest for a living or for themselves, helps keep things in perspective.
wish I had the time, many of the monkeys on this site could use an education of the following:
Wow great idea, keep it coming!
Nice write up.
For those who are interested in this stuff, the Ascent of Money by Niall Ferguson also has a great chapter or two on this and other bubbles.
http://www.amazon.com/Ascent-Money-Financial-History-World/dp/014311617…
Very interesting read. Looking forward to future posts!
Thanks!
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