<p><em>Romesh Vaitilingam interviews Anne Murphy for Vox</em></p>
<p><em>January 2010<br />
</em></p>
<p><em>Transcription of an VoxEU audio interview [http://www.voxeu.org/index.php?q=node/4493]</em></p>
<p><strong>Romesh Vaitilingam</strong>: Welcome to Vox Talks, a series of audio interviews with leading economists from around the world. My name is Romesh Vaitilingam and today's interview is with Anne Murphy, lecturer in history at the University of Hertfordshire, and associate director for the Center for Financial History at Newnham College, Cambridge.</p>
<p>Anne and I met in London in January, 2010 where we spoke about her new book, <em>The Origins of English Financial Markets: Investment and Speculation before the South Sea Bubble</em>. Anne began by explaining how she became interested in the markets in private equity and public debt that emerged in London in late 17th century.</p>
<p><strong>Anne Murphy</strong>: When I was looking around for something to do for my PhD, I read a lot about the South Sea Bubble. The first idea really was to write about the South Sea Bubble. But of course it's been covered very extensively. And what I found when I was looking into that was that although people who write about the bubble presented it as really the first event in the development of England's financial markets, actually by the time we get to 1720, the market is a generation old.</p>
<p>So I looked back a little bit to try and find the origins of that market, and discovered that they were in the late 1680s early 1690s. But that period hadn't been written about for a very long time. And hadn't really been written about from the perspective of, who were the investors? Why were they interested in the market at this time and how did they learn about the opportunities that were available to them?</p>
<p>That was the impetus really.</p>
<p><strong>Romesh</strong>: So your book is really a call to people to recognize the importance of this period in time for understanding the long term history of financial markets?</p>
<p><strong>Anne</strong>: Absolutely. It's about trying to discover the beginnings of England's financial market. And trying to move away from the distortion, I think, that the emphasis on the bubble creates.</p>
<p>Romesh: So give me the real story. What do you see as the prime mover, the key things that are going on in this period that drive the emergence of these financial markets?</p>
<p><strong>Anne</strong>: Well there are several things that allow the financial markets to emerge at this time. To start with, England is becoming very much richer. There's a boom in trade in the 1670s, particularly the 1680s, which bring more capital into the country. So there's more capital searching for investment opportunities.</p>
<p>There are very few investment opportunities at this time. You've got the East India Company, Royal African Company, Hudson Bay Company, but their capital is limited. There are few places for people to go if they want to make money.</p>
<p>Also you see the emergence of the things that need to underlie a financial market. So goldsmith bankers are starting to emerge. The extension of credit through goldsmith bankers is quite important. Scriveners are starting to provide financial advice.</p>
<p>You do have the emergence of stockbrokers for the limited opportunities that are available. Also there are a couple of big events that really kick off the financial market. There's a guy called William Phips, who is a treasure hunter, effectively. And he spends a lot of time searching for a treasure that is known to have sunk off the coast of Hispaniola, in the West Indies. And eventually finds this and brings it back to England. It's a huge haul of treasure. More money than he's ever seen in one go.</p>
<p>What's interesting about his venture is that it's been funded by a joint stock. So the people who have invested in him, invested relatively little to start off with and ended up with huge fortunes. And a lot is written about this. And it starts to introduce the English public to the idea that investing a relatively small amount of money in a joint stock might lead to the yielding of a great fortune.</p>
<p>Also, there's the Glorious Revolution of 1688 which brings William III to the throne. One of William III first priorities is to control the ambitions of France. And this leads to William taking England into a war against France. And that does two things. Firstly, it restricts the amount of capital going abroad, going into foreign trade, and keeps capital at home. It also restricts the amount of imports that are coming into the country.</p>
<p>So things like paper and lace and textiles that had been coming in from France and other European countries, are now suddenly not available. And this encourages manufacture domestically. And a lot of the people who were setting up these new manufacture industries are raising capital through joint stocks as well, which spreads the level of investment opportunities.</p>
<p>The war also is costly. It requires an awful lot of money which the government doesn't have. Taxation can cover part of the bill, but tax revenue comes in relatively slowly. It's a new regime. Obviously they cannot tax the population to death because that would be political suicide. So a way has to be found in order to raise money quickly without offending the population.</p>
<p>And how this is done is by the creation of a number of a number of new, long term funds. One of the ways that's done is by selling life annuities. We see the first state lottery to raise money and we see the emergence of the Bank of England. All of these things put together represent the emergence of the first long term national debt, which effectively funds the nine years war.</p>
<p><strong>Romesh</strong>: So what we're really seeing is the emergence of both private equity markets and the public debt market simultaneously? And then on the side, or rather, for the mass of the population perhaps, this whole idea of lottery, which seems nowadays like quite a new thing but was going on many, many years ago.</p>
<p><strong>Anne</strong>: Absolutely it was, yes. And this partly is a new story because historians previously have focused on the public debt, the emergence of the national debt, and have ignored what was going on in the private equity market.</p>
<p>What I'm trying to suggest is that the two are complementary. And actually when the government is trying to establish the national debt, they're looking to the example of the private equity market. They're seeing the enthusiasm that this can generate. And they are using that example and that excitement to their own advantage.</p>
<p>The lottery, of course, is an interesting one. And it's a brilliant innovation. It's a domestic innovation. It's something that England establishes copying a Venetian model rather than a Dutch model, as many people think. And it's brilliant because the lottery ticket costs 10 pounds, so they are relatively cheap. And you can buy in syndicates.</p>
<p>So that people who are relatively low down the social spectrum, now can become involved in government debt. Not only does this greatly enlarge the ability of the government to raise debt, it also means that so many more people are involved in government debt.</p>
<p>This is also important because this is a new regime. And arguably debt, at this time, is not just about raising money, but it's about raising friends for the new regime. They may not necessarily always be on the regime's side, but if a regime owes you money, you have an interest in its survival.</p>
<p><strong>Romesh</strong>: Can you explain a little bit more about the emergence of the Bank of England and its role. I mean presumably it wasn't doing the kinds of things that it does nowadays. But it did play some kind of regulatory role. Was the government acting separately as a regulator of these markets?</p>
<p><strong>Anne</strong>: No, regulation I think is a separate problem. The Bank of England is an accident of war. The Bank of England would not have emerged had the government not needed money at this time. The English had a great antipathy towards banks. Those who favored a republic imagined that the monarch might use it to raise money and so circumvent parliament. Those who favored a monarchy imagined that parliament might use it in order to undermine the monarch.</p>
<p>The Bank of England therefore, is an accident. And it's not intended as a permanent institution. Initially, it's only given a 12 year charter. The plan is that the money lent to the state will be repaid and then the bank would be round up.</p>
<p>It's terribly popular though, with investors. People can see the need for a bank. And there is a lot of hype about what it might do, the fact that it might lower interest rates, that it will provide credit to the economy. It will enable England to challenge its chief economic rival, the Dutch. The Dutch obviously have an efficient bank and that's known about. The idea is that England should have an efficient bank as well.</p>
<p>The reality is somewhat different. The Bank of England initially raised 1.2 million in capital from investors. It lends that money immediately to the state so its sole purpose, if you like, is banker to the state. It does very little other than that initially. It dabbles in private lending but finds it not particularly profitable and really doesn't go very far along that route.</p>
<p>It does some discount business that builds up relatively slowly. But really its purpose is to lend money to the state, to be the state's bankers. But the relationship between the two is quite problematic, particularly in these early days. Parliament is keen for more money for its wars and exploits the bank and exploits the bank's dependence on Parliament in order to get more money.</p>
<p>The bank is keen to maintain its position so it keeps lending almost to the extent that it bankrupts itself. By the time you get to 1696, 1697, the government is still demanding money. The bank can no longer provide it.</p>
<p><strong>Romesh</strong>: Your book is economic history, but it's vivid with real people whose stories inform your argument. You've mentioned William Fitch, but another character that really dominates the book is this character, Charles Blunt. Can you tell us a little bit about his story, which gives you lots of insight into the way these investment markets operated, but it also has a rather tragic ending?</p>
<p><strong>Anne</strong>: Yes. He's a fascinating character. He's an upholsterer when the financial markets really take off, and he seems to be making a nice living for himself. You can see in his account books. He's stuffing feather pillows, and he's hanging wall hangings and doing that sort of thing, covering chairs. We don't know precisely why he decides to give up a fairly lucrative business to become a financial broker, but that's what he does.</p>
<p>I suspect that the idea comes from his cousin, John Blunt. Now, John Blunt is famous for being the chief instigator of the South Sea Bubble. And he's already a fairly active speculator by the early 1690s, and you can see him in various different places. He's investing in the smaller joint stock companies that emerge in the early 1690s. He's fairly active in government debt right from the start.</p>
<p>So I suspect that John gives Charles the idea that this is a good area to move into. And Charles becomes a financial broker, and his brokerage accounts are preserved, and we can see him dealing with the chief stock jobbers of the day. So really sort of prominent people in the financial market, all the way down to people who obviously just come to him once or twice in order for him to arrange deals.</p>
<p>And he's making a fair amount of money off of this. There was one year I think in which he gets around about two-and-a-half thousand pounds in brokerage, which is really reasonable living, far more than he was making from being an upholsterer. What's quite interesting about him is that he stays the middleman.</p>
<p>He's not getting too involved in the markets himself. He doesn't appear to be speculating in any large way. He doesn't appear to be accumulating large amounts of government debt or Bank of England stock, doesn't appear to be playing in the derivatives market in which his customers are very interested. So he stays the middleman throughout the 1690s and thus survives both boom and bust in the 1690s.</p>
<p>But into the 1690s, it appears that he's made enough money to retire, and he seems to be living quite quietly. John Blunt on the other hand possibly also has made enough money to retire but stays involved and stays interested particularly in government finance. And you can see Charles coming back and becoming involved in John's schemes, when necessary, once again as the middleman.</p>
<p>So when the South Sea Company is established one of the ways in which its established is exchanging more government debt for South Sea shares, and Charles acts as the middleman there. The forerunner to the South Sea Company is a company called the Sword Blade Bank, and the Sword Blade Bank is involved in Irish land forfeitures, and Charles acts as the middleman there.</p>
<p>It's probable that Charles is acting as the middleman for the exchange of government debt that takes place in 1719 and 1720 as well. And out of this he's slowly accumulating stock, which appears to have been given to him as gifts. He becomes the Director of the South Sea Company, and he's making quite a bit of money out of this. And obviously, during the bubble of 1720, his South Sea Company stock increases greatly in value.</p>
<p>By the end of 1720, there's one newspaper report that Charles is worth a quarter of a million pounds. It's unlikely to be true. It would have been nice had it were, but there's no way we can substantiate that claim. But when the bubble collapses, Charles' world collapses also.</p>
<p>And whether he fears the embarrassment of having to confess that he's lost all or whether he fears the public outcry and Parliament's outcry against what the South Sea Company has done, we don't know, but the upshot is that at the end of 1720, Charles slits his own throat to commit suicide.</p>
<p><strong>Romesh</strong>: Anne, can we talk in a little bit more detail about the nature of these financial markets and perhaps make some comparisons with the present day? First of all, talk a little bit about the kind of financial instruments that people are investing in and how they compare to the present day. I think you've found that they're rather more sophisticated and complex that we might imagine.</p>
<p><strong>Anne</strong>: Yes. One of the really surprising things that I found was a very active derivatives market, as a very active market in futures, what we would call futures, but were known as twine bargains, and stock options, which were known as refusals and puts at the time. This I thought was fascinating.</p>
<p>It's only preserved and can only really be seen through Charles Blunt's ledgers, which contain close to 600 examples of stock options on a variety of different, small joint stock companies. It's interesting because the market exists, but it's also interesting because we have these accounts which show us what investors were doing with these derivatives.</p>
<p>And we can see that they're speculating with them, and we can see that they are trained to manipulate the market, using stock options, but we also can see that they are trying to manage their risk using stock options. And the peripheral literature shows us that they have quite a sophisticated understanding of how that risk might be managed, and the problems and risks of selling options, particularly when they don't understand perfectly how that risk might be hedged.</p>
<p><strong>Romesh</strong>: Tell us a bit more about these investors, who they are and then how they think about their investment strategies, where they do their trades, what kind of intermediary they might use.</p>
<p><strong>Anne</strong>: There are a whole variety. There are a lot of merchants involved in the financial market. This is because the market is emerging through this wartime period and their traditional investment strategies, investing in overseas trade, has been restricted. So this encourages them into the financial market. But at the same time you see a whole variety of people who are starting to become interested.</p>
<p>Particularly, a lot of women are interested in Bank of England stock particularly. It's perceived from relatively early on as quite a safe investment. So, 12 percent of the first investors in the Bank of England are women.</p>
<p>At the same time, there are a lot of people who are involved in government debt in other ways. So, people who are contractors for government have taken on short-term government debt. A lot of those exchanged their short-term government debt for Bank of England stock in 1697. So these are people like mariners and carpenters.</p>
<p>And you get the oddities. So the master of Queens' College, Cambridge is one of the first investors in Bank of England stock. There are mathematicians and wig-makers. [laughs] And really, a whole variety of people are represented.</p>
<p><strong>Romesh</strong>: And where are they getting their information from? There was no Internet in those days. Newspapers are presumably only just emerging. Where do investors look to think about making their decisions?</p>
<p><strong>Anne</strong>: Newspapers are only just emerging. And they don't contain a lot of investment advice, and they don't give you a lot of information about the economy in general. So it's quite difficult, I think, for investors to get a good understanding of what's available in the market and how the market might move in the future.</p>
<p>If you want good investment information, then you physically go to the market. You go to the city of London, you go to the Royal Exchange, you go to the coffeehouses, and you talk to people and you listen to people.</p>
<p>For the people who are not in that position, things can become quite complicated. There's a nice example of a merchant called Samuel Duke who lives down in Rye, on the south coast, and he's interested in buying stock at one point. So he writes to his correspondent in London and finds out the price. He gets the price sent back to him and he says, &quot;Oh, excellent! I'll buy.&quot; And he sends that back in a letter. And then that letter takes two days to get back to London.</p>
<p>Two days later, he gets another letter saying, &quot;Well, the price has moved. What do you want to do now?&quot; And this goes on for a while, with him sort of chasing the price backward and forward by letter, until eventually he just says, &quot;Well, just buy at any price, &quot; because that's the only thing he can do. So that kind of problem is fairly constant for a lot of investors who can't have a physical presence in the market.</p>
<p>The way Samuel Duke fixes this is by going to London and sitting in coffeehouses and actually being in a position to be there. But that, of course, causes him other problems because, while he's in London, he's neglecting the business at home. And his poor wife at home, who was looking after her mother and the children and the business and the home and everything else, is overwhelmed, and mistakes get made, in the domestic business and in Samuel's main business, that aren't compensated for by the 100 pounds of Bank of England stock that he's sitting in London watching.</p>
<p><strong>Romesh</strong>: Tell us a little bit about the highs and lows of these markets. You describe the 1690s as being the first stock-market boom and stock-market bust. And then, of course, at the end of the period that you look at, there is the South Sea Bubble, which is the one that we've all heard of. How did that all play out in terms of the irrational exuberance at the time and the market euphoria and then the crash? How does it compare to what we've been through in the last couple of years?</p>
<p><strong>Anne</strong>: I think you see the same characteristics emerging in bubbles almost throughout history. There is an excessive availability of capital. There are new products on the market. There is excitement. There is the communication of that excitement to a new generation of investors, who are not necessarily na&iuml;ve but are not as savvy as the insiders who are well-established in the market. And then there is the realization that prices are not necessarily sustainable, disappointment, and a retrenchment in the market.</p>
<p>The question is, I suppose, whether the market survives that retrenchment. And what's interesting about the 1690s is the speed with which you get boom in the private companies that emerge in the late 1680s and the early 1690s and then bust, and then the new boom that comes out of the lottery tickets that are available to people, and the new government debt that is available to people.</p>
<p>But then, almost bust in government debt as well, because as we get to 1696 and 1697, the war is going very badly. It's becoming very difficult for government to raise new funds. The potential is that government will not be able to afford to pay the interest that it has committed to and that it will renege on the debt.</p>
<p>They try to float, in 1697, a new lottery scheme, and that fails because nobody will buy tickets. So the potential for complete collapse at this point is very great. And it seems that it is the secondary market, the ability for investors who have lost faith in the government to exchange their debt and cast it off to people who retain the faith in government's ability, one day, to repay, that preserves the market.</p>
<p><strong>Romesh</strong>: You talk a lot in the book about market flaws. But it seems to me that, I don't know, are the flaws any different from what we see now? You talk about things like the opportunities for insider trading, the opportunities for people to run very questionable schemes.</p>
<p><strong>Anne</strong>: Yes.</p>
<p>[laughter]</p>
<p><strong>Romesh</strong>: The whole nature of the euphoria and then crash, it just feels very similar. Are these flaws anymore, or just part of the long-term development of the markets?</p>
<p><strong>Anne</strong>: Yes. There's a nice quote by a financial journalist called James Grant, who suggests that learning is linear in things like science but is cyclical in finance.</p>
<p>[laughter]</p>
<p><strong>Anne</strong>: So we learn and then go back to the beginning constantly. [laughs] So, yes, I think the flaws that exist in the market of the 1690s haven't necessarily gone away. [laughs]</p>
<p><strong>Romesh</strong>: So, final question for you, Anne. What do you think that we can learn from your study for today, whether we're thinking about that as private investors or people involved in the markets, or in terms of governments and regulators facing all sorts of challenges in thinking about how they're going to deal with the financial markets in the future?</p>
<p><strong>Anne</strong>: I think one of the chief lessons that the establishment of the market in the 1690s suggests is the importance of the credibility and trust in the markets. And this was particularly important for the government's fund-raising activities.</p>
<p>Oddly enough, it's not, in my opinion, a credibility that is offered by government. The state is not offering a credible promise. The credible promise comes because it's demanded by investors. And investors are scrutinizing what government does, and holding government to account.</p>
<p>So, in the period, in 1696, 1697, when everything looks close to collapse, investors are gathering together. They are having meetings. They're discussing what they should do. They're presenting petitions to government. They're writing pamphlets, telling government how it should behave in order to make its financial promises credible. And I think it's that level of scrutiny and transparency that we need to ensure is maintained in modern financial endeavors.</p>
<p>The other difficulty, I suppose, is the problem of regulation, which was a problem in the 1690s, for a variety of reasons. Partly because the people who might be regulating the market didn't really understand what the market entailed and how it worked, but also because the regulator, or the potential regulator, the state, was also the end user of the market, and therefore its motives were mixed. It wanted to regulate the worst excesses away from the market, but it was conscious that doing so might destroy the liquidity that was needed.</p>
<p>And again, I think, if we look at the position we're in now, we are facing the same problem. The potential regulator is also an end user of the financial system, and therefore asking states to regulate is, I think, very problematic.</p>
<p><strong>Romesh</strong>: Anne Murphy, thank you very much.</p>
<p><strong>Anne</strong>: Thank you.</p>