The Last Time Things Were This Bad

A report by the Office for Budget Responsibility (OBR) in mid-April estimated that if the lock down continued for 3 months the UK could see a contraction in its economy of 35% within the same period. This made headlines as being the biggest economic slump since the South Sea Bubble burst in 1720. This article looks at what happened in this very different and very long ago economic crisis.

The South Sea Company was founded in 1711 and given a monopoly on trading (mostly in slaves) with South America in return for taking on some of the national debt racked up by the War of Spanish Succession. People whom the government owed money to were issued with shares in the company in replacement for the loans due, the company would pay 6% interest to the government which would then be distributed to share holders as a dividend. Everybody wins as long as the company can make money from its operations which unfortunately it didn’t, trade was disappointing and profits were never significant. Despite this and with the help of some corrupt politicians and insider trading the company persuaded the government to convert more of its debt into company shares in 1719. The company also falsified reports of financial success and undertook a massive PR exercise in the (non-existent) land of plenty on the South Seas. This led to rapidly rising share prices, more government debt purchases and a Ponzi scheme where the company expected to fund itself from future share price rises rather than actual profits.

At a time when the concept of a joint stock company was relatively new the hype around the South Sea Company also prompted similar market excitement. Many other companies with very dubious business models were able to sell their stock at a huge mark up by promising spectacular returns to investors. In 1720 as now you cannot fool all of the people all of the time and the South Sea Company’s wheeze began to unravel in the later half of 1720 with its stock price rapidly tumbling. This led to general market panic with frantic bankers having to be read the riot act (literally) to restore order at Parliament when they filled the lobby. An economic crisis ensued with many investors ruined, GDP falling and unemployment rising.

Whilst anti-lockdown protestors may have stormed the capitol building in Michigan on 30^th April similarities between the South Sea Bubble and our current economic crisis probably end there. The South Sea crisis was caused by problems in financial markets so had much more in common with the previous 2007-8 financial crisis, the dot-com bubble or the Wall Street Crash. Resolving the crisis involved restructuring financial institutions and to an extent the economy. Resolving this crisis is likely to rely on a scientific and public health solution: ultimately a vaccine or being able to test and isolate cases sufficiently to prevent spread to the wider population. Whilst financial crisis’ tend to affect savers disproportionately this crisis most affects workers by taking away the means of producing income. In theory at least if a hoped for medical solution can be found for Covid-19 economic recovery should be less complicated and swifter than downturns caused by financial bubbles.